How to Calculate
ASSUME THE STOCK MARKET HAS ONLY THREE COMPANIES:
|
|
Market Capitalization |
|
Last Year's Earnings |
Company A = |
$6 billion |
|
$100 million |
Company B = |
$3 billion |
|
$300 million |
Company C = |
$1 billion |
|
$200 million |
Total Market Cap of All Companies |
$10 billion |
Total Earnings of All Companies |
$600 million |
FUNDAMENTALLY WEIGHTED INDEX
|
Company A = |
$100 million |
= 16.7% weight in index |
$600 million |
Company B = |
$300 million |
= 50% weight in index |
$600 million |
Company C = |
$200 million |
= 33.3% weight in index |
$600 million |
For the fundamentally weighted index, we used earnings as a measure of economic size. Earnings for the entire universe of companies equaled $600 million, so Company B, with $300 million in earnings, receives a weight of 50% in this fundamentally weighted index. Fundamentally weighted indexes often use additional measures of fundamental size such as cash flow, book value, sales, and/or
dividends. Notice that market capitalization (and therefore market price) is not considered for this fundamental index. |
|
Examples
- PowerShares FTSE RAFI US 1000* -
– (ETF symbol: PRF)
This is an ETF designed to track the FTSE RAFI US 1000 Index, a fundamentally weighted index designed by Research Affiliates. The index selects the largest U.S. stocks (based on economic size) and weights these stocks on their economic size. For this Index, economic size is measured by a company's five-year average of book value, cash flow, dividends, and sales. Based upon past history, this ETF can be expected to outperform the Russell 1000 or S&P 500 index by an average of approximately 1–2 percent per year after expenses. Price and value criteria are not included in this index.
- Wisdom Tree Total Dividend* – (ETF symbol: DTD)
The ETF employs an indexing investment approach to track the performance of the WisdomTree Dividend Index. The ETF attempts to invest all, or substantially all, of its assets in the stocks that make up the Index. The ETF generally uses a Representative Sampling strategy to achieve its investment objective, meaning it generally will invest in a sample of the securities in the Index whose risk, return and other characteristics closely resemble the risk, return and other characteristics of the Index as a whole.
The WisdomTree Dividend Index measures the performance of U.S. companies that pay regular cash dividends on shares of their common stock and that meet specified requirements as of the Index measurement date. Companies are weighted in the Index based on their projected cash dividends as of the Index measurement date. The Index includes all large-capitalization, mid-capitalization and small-capitalization securities that meet the Index requirements and is, in this sense, a total market index for the dividend-paying segment of the U.S. market.
- Wisdom Tree LargeCap Value* – (ETF symbol: EZY)
The ETF employs an indexing investment approach to track the performance of the WisdomTree LargeCap Value Index. The WisdomTree LargeCap Value Index is a fundamentally weighted index that measures the performance of large-cap value companies. The WisdomTree LargeCap Value Index consists of U.S. companies that have positive cumulative earnings over the past four fiscal quarters and that meet The Index's market capitalization, liquidity, and other requirements as of the Index measurement date. For these purposes, "earnings" are determined using a company's reported net income, excluding special items, applicable to common shareholders. WisdomTree Investments creates a "value" score for each company based on the company's Price to Earnings Ratio, Price to Sales Ratio, and Price to Book Value and 1-year change in stock price. The top 30% of companies with the highest value scores within the 1000 largest companies by market capitalization are included in the WisdomTree LargeCap Value Index. Companies are weighted in the WisdomTree LargeCap Value Index annually based on earnings.
- WisdomTree Total Earnings* – (ETF symbol: EXT)
The ETF employs an indexing investment approach to track the performance of the WisdomTree Earnings Index. The WisdomTree Earnings Index is a fundamentally weighted index that measures the performance of earnings-generating companies within the broad U.S. stock market. Companies are weighted in the Index based on their earnings over their most recent four fiscal quarters preceding the Index measurement date. For these purposes, "earnings" are determined using a company's "Core Earnings." Core Earnings is a standardized calculation of earnings developed by Standard & Poor's that is designed to include expenses, incomes and activities that reflect the actual profitability of a company's ongoing operations. The Index includes large-capitalization, mid-capitalization and small-capitalization securities and is, in this sense, an earnings-weighted index for the total U.S. market.
- PowerShares FTSE RAFI Developed Markets ex-US -
– (ETF symbol: PXF)
This is an ETF designed to track the FTSE RAFI Developed Markets ex-US Index, a fundamentally weighted index designed by Research Affiliates. Companies are selected and weighted based on the following four fundamental measures of firm size: book value, cash flow, sales and dividends. Price and value criteria are not included in this index. The index selects from approximately 1,000 securities of companies with market capitalizations of between approximately $200 million and $200 billion that were domiciled in Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland, Israel, Italy, Japan, Luxembourg, the Netherlands, New Zealand, Norway, Portugal, Singapore, South Korea, Spain, Sweden, Switzerland, Thailand and the United Kingdom or primarily listed on an exchange in such countries. The Fund generally invests in all of the securities comprising its Underlying Index in proportion to their weightings in the Underlying Index.
*Certain ETFs may have tax advantages over mutual funds. If managed well, most capital gain tax obligations are only recognized upon the sale of the ETF. Please note that ETFs with smaller market capitalizations are sometimes terminated by the sponsor with unexpected tax consequences. Therefore, it may be prudent to invest in ETFs with larger market capitalizations.
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