The Revenge of the Stock Pickers

When an exchange-traded fund (ETF) trades heavily around a theme, correlations among its constituents increase significantly. Even some securities that have little or negative exposure to the theme itself begin to trade in lockstep with other ETF constituents. In other words, because ETF investors are agnostic to security-level information, they often “throw the baby out with the bathwater.” As the prices of individual stocks get dragged up or down with ETFs, these mispricings can become significant, and the profits realized by taking advantage of them may present an opportunity for stock pickers. Disclosure: The authors work for an active investment manager involved in stock picking. The views expressed in this article are those of the authors and do not necessarily reflect the views of T. Rowe Price. Further information can be found at the end of this paper. Editor’s note Submitted 10 September 2018Accepted 7 January 2019 by Stephen J. BrownThe views expressed are those of the authors, are subject to change without notice, and may differ from those of other T. Rowe Price associates. Information and opinions are derived from proprietary and nonproprietary sources deemed to be reliable; the accuracy of those sources is not guaranteed. This material does not constitute a distribution, offer, invitation, recommendation, or solicitation to sell or buy any securities; it does not constitute investment advice and should not be relied upon as such. Investors should seek independent legal and financial advice, including advice as to tax consequences, before making any investment decision. Past performance is not a reliable indicator of future performance. All investments involve risk. The charts and tables are shown for illustrative purposes only.