A Mid-Cap Multifactor ETF With Broad Reach
This Silver-rated fund earns its stripes through its thoughtful factor pursuit and strong diversification.
John Hancock Multifactor Mid Cap ETF (JHMM) pursues the size, value, and quality factors with discipline. Its tilts toward these well-vetted investment factors are fairly tame, but effective diversification and a competitive expense ratio make it an appealing option. It earns a Morningstar Analyst Rating of Silver.
This strategy tracks the John Hancock Dimensional Mid Cap Index. This benchmark targets the broad mid-cap market and weights stocks based on the combined strength of their size, value, and quality characteristics. Stocks that score well in all three criteria receive larger weightings than firms whose strength in one factor is offset by weakness in another.
The resulting portfolio has noticeable tilts toward smaller and more-profitable stocks than the Russell Midcap Index, but its value tilt is less pronounced. The quality focus is the primary culprit, as very cheap stocks tend to rank poorly in profitability metrics. This is a worthy trade-off. Mild value exposure is a fair price to pay to avoid stocks whose low profitability makes them unlikely to deliver strong returns.
Size, value, and quality have historically been linked to market-beating performance. Even when its value exposure wavers, this fund's factor tilts should enable it to outpace the Russell Midcap Index over the long term.
An effectively diversified portfolio should help mitigate risk. A slump from one factor could hurt this fund's returns, but its exposure to the others should help soften the blow. For example, value and quality tend to balance each other out, as their success is negatively correlated.
This fund sweeps in a wide range of mid-cap stocks, so firm-specific risk is not a concern. Neither is sector risk, as this fund evaluates firms' value and profitability traits on a sector-relative basis, yielding a portfolio whose sector composition matches the Russell Midcap Index. This fund has exhibited more volatility than the Russell Midcap since its 2015 inception, which is a function of its smaller market-cap orientation compared with the index.
Although its value exposure is inconsistent, this fund's steady tilt toward small and profitable stocks should help it outperform the Russell Midcap Index over the long term. Its broad reach mitigates risk, and index buffers effectively limit turnover. These considerations underpin an Above Average Process rating.
The John Hancock Dimensional Mid Cap Index starts by ranking all investable U.S. stocks by market capitalization. It includes the 301st to 900th largest U.S. stocks. The index adjusts from each stock's market-cap weighting to tilt toward firms that are small, cheap (based on price/book), and profitable (based on operating profit margin) and underweight those with the opposite characteristics. This approach helps limit turnover, as the target weightings move with market prices. Index buffers further mitigate portfolio turnover and the associated transaction costs. This fund has boasted turnover in its Morningstar Category's lowest quintile in each of its four full calendar years.
At each semiannual index rebalance, stocks are ranked by trailing 11-month returns. The lowest 30% cannot receive a weight increase, even if their size, value, and quality traits prescribe it. This mitigates exposure to stocks with deteriorating fundamentals and should aid performance.
This fund's mandate to hold the complete mid-cap market sweeps in many of the stocks that reside in the Russell Midcap Index. In fact, 94% of the stocks in this portfolio can be found in that index, and the fund's active share against that benchmark is only 31%, which is the lowest among multifactor funds in the mid-cap blend category. This indicates that the fund pursues its factors with caution and should perform closer to the Russell Midcap Index than other multifactor strategies in the category. For the fund to recoup its fees, its few differences from the Russell index need to bring meaningful returns.
Adjusting each stock's weight based on the combination of its size, value, and quality traits emphasizes firms with exposure to all three factors. For example, Skyworks Solutions (SWKS) is far from the smallest, cheapest, or most profitable name in this portfolio. However, its exposure to each of these factors is relatively solid, earning it a top-five spot in the portfolio.
This integrated approach has produced solid exposure to the quality and small-size factors. For example, its return on assets--a measure of profitability--comfortably exceeds that of the Russell Midcap Index. This fund's small-size tilt is milder but consistent. The average market-cap of this fund's holdings has hovered about $2 billion lower than the Russell Midcap since this fund's inception. Value has not emerged the same way. Measures like price/book and price/earnings indicate a very similar value-growth orientation for this fund and the Russell Midcap Index.
Each stock's value and profitability characteristics are evaluated on a sector-relative basis, which keeps the portfolio balanced and improves comparability. Its sector composition is nearly identical to the Russell Midcap Index, indicating that it is not making uncompensated sector bets.
This fund is well-diversified among its holdings, too. It caps each stock's weighting at 4%, but no holding has ever eclipsed 1% of this portfolio. At the end of September 2020, the top 10 holdings represented just over 4% of the portfolio.
From this fund's inception in September 2015 through September 2020, it trailed the Russell Midcap Index by 17 basis points annually. This narrow underperformance owes to the fund's fee, slightly smaller market-cap orientation, and unfavorable exposure to technology stocks.
The fund's small-cap tilt has hampered performance, as the largest mid-cap stocks have delivered some of the strongest returns. For example, this fund did not invest in Nvidia (NVDA) and ServiceNow (NOW)--two outstanding performers over the past five years--as heavily as the cap-weighted Russell Midcap Index did. This illustrates the drawback to mechanically constraining the weight of larger mid-cap stocks.
The fund's spotty exposure to the value factor has been a windfall to performance. Over the past five years, the Russell Midcap Value Index trailed the Russell Midcap Growth Index by 9.25 percentage points annually. If this fund had steered more definitively into value, its returns would likely be far less attractive.
This portfolio management team has effectively tracked the index. The fund trailed its benchmark by 45 basis points annually over the past five years, which is right on par with its expense ratio.
This fund is subadvised by a portfolio management team at Dimensional Fund Advisors, the same firm that constructs this benchmark. The team's global trading capabilities and focus on mitigating transaction costs support an Above Average People Pillar rating.
Lukas Smart, Joel Schneider, and Joe Hohn are the named managers on this fund. Smart and Schneider have overseen this strategy since its 2015 inception. Hohn joined the roster in 2018 and currently leads the effort for this fund. However, Dimensional's team-based approach renders the other two managers--and others not named on this fund--capable of stepping in for Hohn. This flat management structure ensures that the team is well-equipped to handle any departures.
Limiting transaction costs is the team's priority. Managers may spread trades over a few days around the rebalance date to reduce market impact. A global network of trading desks helps the team implement this strategy efficiently.
This team is subject to risk oversight committees at both Dimensional and John Hancock.
Ryan Jackson does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.