Active Investment Possibilities

Before advancing to the active investment options, I would like to introduce two event-driven ETF's, IPO and PKW. The IPO ETF is an ETF that tracks the Renaissance IPO Index designed to hold a portfolio of the largest, most liquid, newly-listed U.S. IPOs. At each quarterly rebalance, new IPOs are added to the index and companies that have been public for three years are removed. The Fund normally invests at least 80% of its total assets in securities that make up the Index. The IPO ETF is related to market inefficiency because it tracks the Renaissance IPO Index which invests in IPO's. These IPO's or stocks are unseasoned equities that lack trading history, a track record of reporting to investors, and widely available research coverage. The lack of all of these can result in extreme price volatility. The PKW ETF seeks to track the investment results of the NASDAQ US BuyBackAchievers Index. The Fund generally will invest at least 90% of its total assets in the securities that make up the Index. This Fund is related to market inefficiency because unlike many other investment companies, PKW does not use an investing strategy that seeks returns higher than the underlying Index. As a result, PKW won't necessarily buy or sell a security unless that security is added or removed from the Index. Thus, resulting in PKW somewhat "blindly" following the Index, maybe sometimes to a fault.

Now that I have introduced a couple event-driven ETF's, I would like to now introduce a couple of active ETF's, ARKK and TOTL. ARKK seeks long-term growth of capital by investing in domestic and foreign equity securities of companies that relate to the ETF's investment theme of "disruptive innovation." Disruptive innovation is defined as the introduction of a technologically enabled new product or service that has potential to change the way the world works. TOTL, seeks to maximize total return. TOTL will invest at least 80% of its net assets in a portfolio of fixed income securities. The Fund may invest 25% of its net assets in corporate high yield securities. Or it may also invest up to 15% of its net assets in securities in foreign currencies, and may invest beyond this 15% limit in U.S. dollar securities of foreign issuers.

Bear with me here, but now I am going to present the means, standard deviations, and Sharpe ratios for each ETF presented above, along with SPY and QQQ which are ETF's we have studied previously. The numbers will be displayed in the order of mean, standard deviation, Sharpe, annual Sharpe.

IPO: 1.50 7.41 0.20 0.70

PKW: 0.94 6.02 0.16 0.54

ARKK: 2.53 9.58 0.26 0.91

TOTL: -0.04 0.88 -0.04 -0.15 SPY: 1.13 4.73 0.24 0.82 QQQ: 1.68 3.94 0.43 1.47

From the data we can see that ARKK has the highest average return over the last 6 years, but it has a very high standard deviation which is a bit alarming. Based on this I would consider QQQ to be the best option for an ETF. It has the highest annual Sharpe with the second highest average return compared with the second lowest standard deviation. If I were to recommend investment strategy I would look at the annual Sharpe and the standard deviations. Based on this I would say my top 3 investment opportunities would be QQQ, SPY, and ARKK in that order. I put SPY ahead of ARKK solely because of the large standard deviation.

After running the CAPM and the 3-Factor Regression Model only one ETF had a statistically significant alpha, which was QQQ. In the 3-Factor Regression I used the ETF's minus 0.001 for the risk free rate as the y_series in each of their respective calculations, and Mkt-RF, SMB, and HML as the x_series for all calculations. I used the p-value to determine if the ETF's alphas were statistically significant. If the p-value was less than alpha, then the alpha was considered to be statistically significant. In the end, QQQ was again the only ETF with a statistically significant alpha.

The efficient market hypothesis states that share prices are a reflection of all information and consistent alpha generation is impossible. After running my regressions I would say that this hypothesis holds true in the instances of these ETF's. QQQ was the only one that had a statistically significant alpha meaning that it is performing close to the CAPM. All of the other ETF's do not have statistically significant alphas. All of these ETF's track indexes that invest in the best or newest companies/stocks which would lead one to believe that their values would be predictable and their alphas would be statistically significant because they are performing close to the CAPM. That is just simply not the case because the market is so unpredictable. This exercise has further shown how the efficient market hypothesis is correct. Sure QQQ was performing close to how it is expected, but that doesn't mean that it won't be trending in a different direction tomorrow, because alpha generation is impossible just as the hypothesis states. Therefore, I would recommend to invest in QQQ right now, but who knows who will have the better or statistically significant alpha in the future.