VIOV: An Average Small Cap Value ETF

Small Cap write on sticky notes isolated on Office Desk. Stock market concept

syahrir maulana

This ETF review series aims at evaluating products regarding the relative past performance of their strategies and metrics of their current portfolios. As holdings and weights change over time, updated reviews are posted when necessary.

VIOV strategy and portfolio

The Vanguard S&P Small-Cap 600 Value ETF (NYSEARCA:VIOV) has been tracking the S&P Small-Cap 600 Value Index since September 2010. It has 464 holdings, a 12-month SEC Yield of 1.71% and a total expense ratio of 0.15%. It is a direct competitor of the SPDR S&P 600 Small Cap Value ETF (SLYV) and the iShares S&P Small-Cap 600 Value ETF (IJS), which track the same underlying index and have similar expense ratios. SLYV and IJS are older: they were launched in 2000. They are also more liquid and have more assets under management.

As described in the prospectus by S&P Dow Jones Indices, S&P 600 constituents are ranked in value and growth styles using three valuation ratios and three growth metrics. The valuation ratios are book value to price, earnings to price and sales to price. By construction, 33% of the parent index constituents exclusively belongs to each style, and 34% belongs to both styles. The Value subset serves as S&P 600 Value Index and is rebalanced annually. It is capital-weighted, with an adjustment for constituents belonging to both styles. For example, a company with a value rank better than its growth rank is given a larger weight in the Value Index than in the Growth Index.

As reported in the next table, aggregate valuation ratios of VIOV are not much lower than for the iShares Core S&P Small-Cap ETF (IJR), which tracks the parent index S&P Small-Cap 600.

VIOV

IJR

Price/Earnings TTM

11.29

11.61

Price/Book

1.39

1.69

Price/Sales

0.66

0.86

Price/Cash Flow

8.36

9.13

Source: Fidelity

The heaviest sectors are financials (21.2%), industrials (17.8%) and consumer discretionary (12.6%). Other sectors are below 9%. Compared to the small-cap benchmark, VIOV significantly underweights technology and healthcare.

Sector breakdown

Sector breakdown (chart: author; data: Vanguard, iShares)

The top 10 holdings represent 7.9% of asset value. The next table reports their weights and valuation ratios. The heaviest one weighs about 1%. Therefore, risks related to individual stocks are very low.

Ticker

Name

Weight

P/E ttm

P/E fwd

P/Sales

P/Book

P/FCF

Yield%

HP

Helmerich & Payne, Inc.

1.07%

877.51

11.32

2.61

1.95

N/A

1.97

PBF

PBF Energy, Inc.

0.97%

1.91

1.48

0.10

1.10

1.43

2.18

SJI

South Jersey Industries, Inc.

0.87%

25.90

20.02

1.62

2.04

N/A

3.64

PTEN

Patterson-UTI Energy, Inc.

0.79%

N/A

32.14

1.67

2.38

N/A

1.82

CVBF

CVB Financial Corp.

0.77%

18.55

17.07

7.63

2.12

25.88

2.79

TWNK

Hostess Brands, Inc.

0.74%

21.56

26.95

2.73

2.00

28.31

0

REZI

Resideo Technologies, Inc.

0.71%

7.57

7.84

0.38

0.98

31.03

0

FHB

First Hawaiian, Inc.

0.67%

13.80

12.86

4.29

1.52

11.44

3.97

SANM

Sanmina Corp.

0.66%

16.50

11.52

0.51

2.17

20.98

0

ACA

Arcosa, Inc.

0.64%

30.69

29.08

1.35

1.50

20.07

0.32

Ratios: Portfolio123

Remember VIOV and IJS have the same underlying index. Since VIOV inception (09/07/2010), they have similar annualized returns (11.85% vs 11.74%). I will use IJS to assess the underlying index on a longer period.

Since 07/24/2000, the Value Index is very close to the parent index S&P SmallCap 600 in performance and risk metrics.

since July 2000

Total Return

Annual Return

Drawdown

Sharpe ratio

Volatility

S&P 600 Value Index (IJS)

693.97%

9.72%

-59.83%

0.48

21.15%

S&P 600 Index (IJR)

681.65%

9.64%

-59.77%

0.48

20.12%

Data calculated with Portfolio123

VIOV has outperformed IJR in 2022. Compared with competitors, it beats the iShares Russell 2000 Value ETF (IWN), but lags the Avantis U.S. Small Cap Value ETF (AVUV).

VIOV vs. Benchmark and competitors in 2022 to date

VIOV vs. Benchmark and competitors in 2022 to date (Portfolio123)

Comparison with my Dashboard List model

The Dashboard List is a list of 60 to 80 stocks in the S&P 1500 index, updated every month based on a simple quantitative methodology. All stocks in the Dashboard List are cheaper than their respective industry median in Price/Earnings, Price/Sales and Price/Free Cash Flow. An exception in utilities: the Price/Free Cash Flow is not taken into account to avoid some inconsistencies. Then, the 10 eligible companies with the highest Return on Equity in every sector are kept in the list. Some sectors are grouped together: energy with materials, communication with technology. Real estate is excluded because these valuation metrics don’t work well in this sector. I have been updating the Dashboard List every month on Seeking Alpha since December 2015, first in free-access articles, then in Quantitative Risk & Value.

The next table compares VIOV underlying index since inception with the Dashboard List model, with a tweak: here, the list is reconstituted once a year to make it comparable with a passive index.

since July 2000

Annual Return

Drawdown

Sharpe ratio

Volatility

S&P 600 Value Index (IJS)

693.97%

9.72%

-59.83%

0.48

21.15%

Dashboard List (annual)

1199.16%

12.16%

-57.52%

0.68

17.13%

Past performance is not a guarantee of future returns. Data Source: Portfolio123

The Dashboard List outperforms the S&P 600 Value Index by 2.5 percentage points in annualized return and has slightly better risk metrics (drawdown and volatility). A note of caution: IJS price history is real, whereas the model simulation is hypothetical.

Price to Book: a risky concept of value

I like the idea of mixing various ratios to rank value stocks. However, I think most value indexes doing so have two weaknesses, and VIOV is no exception. The first one is to classify all stocks on the same criteria. It means the valuation ratios are considered comparable across sectors. Obviously, they are not: you can read my monthly dashboard here for more details about this topic. A consequence is to overweight sectors where valuation ratios are naturally cheaper, especially financials. Some sectors are disadvantaged: those with large intangible assets like technology. Companies with large intangible assets are those with a business model based on massive R&D, or a strong branding, or large user databases, or operating in a field where competition is limited by an expensive entry ticket. All these elements are not correctly reflected by valuation ratios.

The second weakness comes from the price/book ratio (P/B), which adds some risk in the strategy. Intuitively, a large group of companies with low P/B contains a higher percentage of value traps than a same-size group with low price/earnings, price/sales or price/free cash flow. Statistically, such a group has a higher volatility and deeper drawdowns in price. The next table shows the return and risk metrics of the cheapest quarter of the S&P 500 (i.e. 125 stocks) measured in price/book, price/earnings, price/sales and price/free cash flow. The sets are reconstituted annually between 1/1/1999 and 1/1/2022 with elements in equal weight.

Annual Return

Drawdown

Sharpe ratio

Volatility

Cheapest quarter in P/B

9.95%

-72.36%

0.48

21.05%

Cheapest quarter in P/E

11.25%

-65.09%

0.57

18.91%

Cheapest quarter in P/S

12.62%

-65.66%

0.6

20.46%

Cheapest quarter in P/FCF

12.23%

-63.55%

0.61

19.05%

Data calculated with Portfolio123

This also explains my choice of not using P/B in my Dashboard List model (more info at the end of this post).

Takeaway

VIOV follows a systematic process based on various value and growth metrics to classify S&P 600 stocks in value and growth categories, and invests in the value subset. IJS and SLYV also have the same underlying index. IJS is a better instrument for tactical asset allocation and trading, because a higher trading volume cuts risks related to bid-ask spreads and slippage. Historical return and risk metrics of the underlying index are very close to those of the S&P Small-Cap 600. VIOV may be part of a tactical allocation strategy switching between value and growth styles depending on market conditions. However, the strategy has failed to bring significant excess return over its parent index on the long term. In my opinion, it has two weaknesses: ranking stocks regardless of their sectors, and using price/book as a primary factor.

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