Market Overview

A Quality ETF For Tax Reform Benefits

A Quality ETF For Tax Reform Benefits

Following the passage of the Tax Cut and Jobs Act, financial markets priced in benefits to an array of sectors, including energy, financial services, health care and technology. Predictably, consumer sectors are also believed to be beneficiaries of the Trump administration's tax reform effort.

An emphasis on the quality factor could also be advisable under a lower tax scheme. The PowerShares S&P 500 Quality Portfolio (NYSE: SPHQ) helps investors access a basket of quality stocks. The $1.44-billion SPHQ, which is 12 years old, follows the S&P 500 Quality Index. Hallmarks of quality stocks include steadily rising dividends, strong balance sheets, investment-grade credit ratings, solid management teams and robust return on equity and return on assets.

“Quality stocks are assessed for issuers' potential to produce strong profits, as measured by often-overlooked balance sheet measures of financial health. Quality stocks have the potential to generate lower volatility and higher risk-adjusted returns than low-quality stocks,” according to PowerShares.

Consumer Exposure

The Tax Cut and Jobs Act has spurred pay increases and employee bonuses at numerous companies, which could translate to higher consumer spending.

“Robust consumer spending is typically a friendly factor for the equity market, and may provide a reason to maintain equity exposure, in my view, despite high equity valuations seen over the past year and the lack of any significant market correction,” said PowerShares in a recent research note

SPHQ allocates a combined 27.2 percent of its weight to the consumer staples and consumer discretionary sectors, making those the ETF's third- and fifth-largest sector weights, respectively. Three of SPHQ's top holdings are consumer staples stocks. The ETF holds 100 stocks, nearly two-thirds of which are large-cap value and growth names.

The Perks

“One of the potential benefits of the quality factor is the selection of stocks that have strong balance sheets. In this case, the S&P 500 Quality Index selects stocks based on return on equity, leverage and earnings quality via accruals,” said PowerShares.

Additionally, SPHQ's consumer staples exposure can provide more leverage to consumer spending trends than many investors typically associate with the usually defensive sector.

“Although the consumer staples sector can at times be viewed as defensive, this isn’t always the case. Consumer staples holdings within the S&P 500 Quality Index include Costco Wholesale Corp. (NASDAQ: COST) and Wal-Mart Stores Inc. (NYSE: WMT), which are both influenced by consumer spending,” said PowerShares.

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