How to become a value investor using ETFs 

How has value investing historically performed?

According to Eugene Fama and Kenneth French's Five-Factor model, value stocks are riskier, and thus investors are compensated for that risk by the "value premium." Stocks that are cheaper in terms of the valuation metrics enumerated above are more volatile and unpredictable, and investors are compensated with greater returns for assuming that risk. 

The historical evidence seems to validate this. From 1972 to the present, U.S. large-cap value stocks soundly beat the total U.S. stock market, with a greater total return, less volatility, and better risk-adjusted returns. Looking at the annual returns, we see that this outperformance occurs in sustained bursts. While growth stocks outperformed in much of the last decade, value stocks are making a strong comeback in 2022, with U.S. large-cap value stocks only down -1.6% compared to the total stock market at -14.24%.

The biggest risk to a value investing strategy is impatience and the fear of missing out. Despite the strong evidence for the value risk factor occurring throughout history, it can be difficult for average investors to stick to a value stock tilt when the rest of the market is going through the roof during a bull run. Imagine being a value investor between 2017 and 2021 when the FANG stocks were taking off, and the growth of stock-heavy NASDAQ hit all-time highs. 

Value investors who cannot stay the course and trust in the theory will inevitably capitulate and sell out of their value stocks precisely at the moment when they should be building a position instead. Value investors who abandon their strategy to chase performance are almost always destined to "buy high, sell low." As Warren Buffett noted: "It is far better to buy the stock of a wonderful company at a fair price than a fair company at a wonderful price."

Examples of value ETFs

An easy way to tilt your portfolio to value stocks is via an exchange-traded fund (ETF) that tracks a basket of them. Various ETFs offer different types of exposures to various subsets of value stocks, such as U.S. only, international developed, international emerging, mega, large, mid, or small-cap. In return for an expense ratio, investors gain instant access to a managed portfolio that rebalances itself regularly, allowing them to stay hands-off and passive. 

I used ETF Central’s screener to find a list of value ETFs and described them based on their strategy, holdings, market cap, geography, and expense ratio. Other ways to test the quality of a value ETF include comparing their valuation metrics and running a factor regression test for the value risk factor. 

Keep in mind that a value tilt is inherently a form of active management, even if passive index ETFs are used. By overweighting value stocks, investors consciously bet on that market segment outperforming. Before investing, ensure you have thought out your investment thesis and risk tolerance carefully. 

Vanguard Value ETF (VTV)

• Assets under management: $95 billion
• Expense ratio: 0.04%
• Index: CRSP US Large Cap Value Total Return Index
• Market cap: Large
• Geography: U.S.
• Strategy: Passive index
• Holdings: 346

Vanguard Small-Cap S&P 600 Value ETF (VIOV)

• Assets under management: $1 billion
• Expense ratio: 0.15%
• Index: S&P Small Cap 600 Value Total Return Index
• Market cap: Small
• Geography: U.S.
• Strategy: Passive index
• Holdings: 459

iShares Russell 2000 Value ETF (IWN)

• Assets under management: $1 billion
• Expense ratio: 0.24%
• Index: Russell 2000 Value Total Return Index
• Market cap: Small
• Geography: U.S.
• Strategy: Passive index
• Holdings: 1,236

Invesco S&P 500 Pure Value ETF (RPV)

• Assets under management: $3 billion
• Expense ratio: 0.35%
• Index: S&P 500 Pure Value Total Return Index
• Market cap: Large
• Geography: U.S.
• Strategy: Passive index
• Holdings: 120

Dimensional International Value ETF (DFIV)

• Assets under management: $3 billion
• Expense ratio: 0.35%
• Index: N/A
• Market cap: Large/Mid
• Geography: Developed international
• Strategy: Actively managed
• Holdings: 519