Investment Thesis
I last covered the SoFi Select 500 ETF (NYSEARCA:SFY) on January 18, 2024, which I downgraded based on my perception that growth stocks were overvalued and how broad-based funds like the SPDR S&P 500 ETF Trust (SPY) were safer choices. Nevertheless, SFY has powered on, delivering a 12.55% total return through May 20, 2024, compared to 11.86% for SPY and 14.29% for the SPDR Portfolio S&P 500 Growth ETF (SPYG).
I’ve come to appreciate how SFY consistently delivers results between SPY and SPYG, and since SoFi has waived its 0.19% expense until at least June 30, 2024, it’s proven to be a solid choice for moderately aggressive growth investors. Today, I will update SFY’s fundamentals after its annual reconstitution, which includes calculating its constituents’ PEG ratios and assigning it a ranking on ten factors against other large-cap growth ETFs. I hope you enjoy the analysis, and I look forward to your questions afterward.
SFY Overview
SFY’s selection process begins with the 3,000 largest U.S. equities by market capitalization. In each reconstitution, the Index selects the 500 largest (subject to a 20% current buffer rule for current members) and re-weights them by taking into account their size and three growth-related factors, as follows:
- Trailing one-year revenue growth.
- Trailing one-year earnings per share growth.
- Forward one-year earnings per share growth.
The changes aren’t usually large, with the average difference being approximately 0.10% compared to SPY. However, SFY currently overweights NVIDIA Corporation (NVDA) and Amazon.com, Inc. (AMZN) by 7.71% and 5.51%, while underweighting Apple Inc. (AAPL), Microsoft Corporation (MSFT), and Alphabet Inc. (GOOG), (GOOGL) by 2.49%, 2.11%, and 1.27%, respectively. Seeking Alpha Factor Grades help us determine the reasons behind these allocation differences. While not perfectly aligned with SFY’s screens, NVDA and AMZN have the strongest Growth Grades of the five, so it makes sense they are assigned higher weightings.
Your comfort level with the Magnificent Seven stocks will likely influence your opinion of SFY. Total exposure is 37.41% vs. 30.19%, but substantially lower than the 54.39% figure for SPYG. For this reason, I’ve labeled SFY a “growth-light” fund. It’s not quite as aggressive as ETFs like SPYG or the Vanguard Growth Index Fund ETF Shares (VUG), but its more robust diversification might attract some growth investors with risk management in mind.
Performance Analysis
Between May 1, 2019, and May 21, 2024, SFY gained 97.40% compared to 95.98% and 105.89% for SPY and SPYG, respectively. One downside is SFY’s lower Sharpe and Sortino Ratios, but the difference is negligible and doesn’t influence my opinion.
Growth investors can easily find large-cap growth ETFs that have outperformed SFY over the last five years. I’ve summarized periodic returns for possible alternatives below, and SFY’s 85.77% total return through April 2024 ranks #20/27. SPYG did better by 6%, with more aggressive funds like QQQ, IWY, and SCHG performing the best.
Still, it depends on how you decide to categorize SFY. You might argue it’s closer to a large-cap blend ETF, in which its 85.77% five-year total return would rank #21/123. Therefore, it’s more important to assess your risk tolerance. SFY works if you want a core holding with a higher growth profile than SPY, but it won’t outperform most growth ETFs in strong bull markets.
SFY Analysis
Fundamentals By Company
The following table highlights selected fundamental metrics for SFY’s top 25 holdings, totaling 54.96% of the portfolio. I’ve also included summary metrics for SPY and SPYG in the bottom rows.
Here are two additional observations to consider:
1. SFY trades at 29.59x forward earnings using the simple weighted average method, placing its valuation almost perfectly in between SPY and SPYG. However, its 18.89% estimated one-year earnings per share growth rate is the best, even after placing a limit of 50% on stocks like NVIDIA Corporation (NVDA). Recall how the Index also screens for one-year trailing sales and earnings growth, and SFY is also ahead of SPY and SPYG on these metrics. As an additional step, we can calculate an ETF’s PEG ratio by dividing its estimated earnings per share growth rate into its forward P/E, which yields the following:
- SFY: 29.59 / 18.89% = 1.57x.
- SPY: 27.24x / 12.27% = 2.22x.
- SPYG: 32.40x / 17.90% = 1.81x.
SFY’s PEG ratio is most attractive. In the large-cap growth category, this ratio ranks #9/57, so I believe it represents good growth at a reasonable price. The only caveat is that the Index reconstituted earlier this month, and there is a risk these fundamentals can deteriorate until next May. That’s what happened last year, and generally, SFY’s returns relative to SPY were most favorable immediately following reconstitutions. To illustrate, SFY beat by 1.46% on average between May and October but underperformed by 1.18% between November and April.
2. Nvidia is an important holding, given how only five U.S. Equity ETFs (SMH, ESGY, LRNZ, SOXQ, FBCG) have a higher allocation. The reason is that the company grew earnings per share by 585.63% over the last year, with analysts expecting more than 100% growth for the next year. While NVDA is on an impressive six-quarter streak of topping analyst expectations, growth estimates are substantially lower for the following two years.
While growth expectations two years out likely won’t be accurate, I think this reveals a flaw in SFY’s selection process. The potential for sizeable year-over-year growth rate declines increases your risk of buying at the top, and in NVDA’s case, the risk is substantial because of its size. Consider how only three SFY constituents had estimated EPS growth rates above 50% at this time last year: CrowdStrike Holdings, Inc. (CRWD), T-Mobile US, Inc. (TMUS), and Booking Holdings Inc. (BKNG). Neither were near SFY’s top ten holdings list, but with a 12.99% weight for NVDA, it’s a lot of single-stock risk.
SFY Rankings: Large-Cap Growth Category
I’ve ranked all U.S. Equity ETFs based on ten factors that I believe drive an ETF’s success or failure. These factors include “basic” ones like assets under management, expenses, and liquidity, and fundamental ones like value, growth, and quality. As mentioned earlier, my database has 57 large-cap growth ETFs, and SFY ranks quite well across the board. Except for quality, it’s average or better on all factors.
It’s worth noting that QQQ, the top-performing large-cap growth ETF, has a lower Growth Ranking than SFY and SPYG. A key reason is that it overweights Apple Inc. (AAPL), which has only 5.59% estimated one-year earnings growth and a disappointing “D” Seeking Alpha Growth Grade.
Investment Recommendation
SFY’s Index reconstituted earlier this month and resulted in several positive changes, including a PEG ratio among the best in the large-cap growth category. Historically, it’s delivered returns between SPY and SPYG, so it’s proved to be a nice choice for moderately aggressive growth investors. As a bonus, its 0.19% expense ratio is waived until June 2024. SoFi routinely extends this date, so I recommend prospective investors check the website in the coming weeks for more information.
I have some concerns with the Index methodology, which only evaluates one-year growth rates when deciding which stocks to overweight. Nvidia received the biggest boost, but since we don’t really have much information about how hyper-growth mega-cap stocks perform when those growth rates eventually decline, SFY appears more risky than before. For this reason, I’ve decided to assign it a neutral “hold” rating, but otherwise, I think it’s a strong ETF fundamentally that I hope you will keep on your watch list. Thank you for reading, and I look forward to your comments below.
Read the full article here