Nasdaq’s New Smart Sectors put a Smart Beta Spin on Traditional Sector Indexing

New Approach Aims to Find the “Best in Breed”

We are excited to announce the launch of the Nasdaq Smart Sector Indexes. This new suite is designed to provide exposure to the most liquid securities in each sector then weight them using a factor-based approach. The methodology ensures that the “best of breed” within each sector are over weighted.

The idea is to achieve smarter and better sector exposures with the goal of lower volatility and better returns. The methodology targets (1) price to cash flow, (2) momentum and (3) low volatility factors and includes a liquidity screen designed to accommodate large-scale assets. The use of these three factors targets value, growth and volatility, respectively, which are historically big drivers of returns.

“We brought in factors that we know help performance and, over time, help generate a little bit better performance than the core benchmark itself,” said Dave Gedeon, Head of Research and Development, Nasdaq Global Information Services.

The Smart Sector specific themes were selected for how they complement the broader Nasdaq sector index offering, which includes the Nasdaq Global Equity U.S. sector indexes based on the Industry Classification Benchmark (ICB); the Nasdaq PHLX® niche sectors, designed to provide access to very specific portions of the market via core large-cap stocks; and the Dorsey Wright relative strength sector index family.

The Nasdaq Smart Sector Indexes include:

  • Semiconductors
  • Banks
  • Transportation
  • Food & Beverage
  • Retail
  • Oil & Gas
  • Pharmaceuticals

Despite their complementary nature, the indexes have high correlations with the broader sector indexes, with most falling in the 95% range. The indexes eliminate cap-weighting and capture a very pure subset of the broad sector, with the tiny incremental performance differences from the factor exposures generally adding up to outperformance.

“We are blending that cap-weighted return and getting that sector exposure while bringing in the ‘smart’ factors. It really blends everything together, and it does so in a rules-based, objective and transparent fashion,” Gedeon noted.

And while the multifactor approach may not provide the level of outperformance one might see from a single-factor index, it also avoids the potential for underperformance posed by a single-factor index to a certain degree. By combining three factors to select and weight the stocks, the methodology can help to “smooth” the return stream so that the returns are more consistent, with “best of breed” names selected and overweighted in a very liquid portfolio.

“The goal is to produce a more consistent level of outperformance, a more consistent level of exposure to these factors, by bringing them all together and selecting ‘best of breed’ of the names. We think it’s a really smart way of getting access to particular names within a sector,” Gedeon added.

Sector investing strategies rely on the fact that certain sectors tend to outperform in certain market environments. You can leverage this to control the risk level of your portfolio, moving into more defensive areas when appropriate. The concentrated nature of the smart sectors and their exposure to specific slices of broader sectors means investors can use them to seek out the most differentiating performance of the broad sector to enhance returns.

“That separation is what is creating the opportunity from a sector perspective, and thus the need for smarter and better exposure into these sectors,” Gedeon said, noting that the goal of the indexes is still to capture the “core return” of their respective sectors.

In other words, the methodology of the Nasdaq Smart Sector Indexes is designed to hone in on the drivers of the sector’s returns in order to deliver an enhanced pattern of returns over the long term.

For more information about the new Nasdaq Smart Sectors or any of our indexes, please click here and a member of our team will contact you.

Nasdaq® is a registered trademark of Nasdaq, Inc. The information contained above is provided for informational and educational purposes only, and nothing contained herein should be construed as investment advice, either on behalf of a particular security or an overall investment strategy. Neither Nasdaq, Inc. nor any of its affiliates makes any recommendation to buy or sell any security or any representation about the financial condition of any company. Statements regarding Nasdaq-listed companies or Nasdaq proprietary indexes are not guarantees of future performance. Actual results may differ materially from those expressed or implied. Past performance is not indicative of future results. Investors should undertake their own due diligence and carefully evaluate companies before investing. ADVICE FROM A SECURITIES PROFESSIONAL IS STRONGLY ADVISED.

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