What is a 'Fundamentally Weighted Index'

A fundamentally weighted index is a type of equity index in which components are chosen based on fundamental criteria as opposed to market capitalization. Fundamentally weighted indexes can base their construction on a range of fundamental metrics, such as revenue, dividend rates, earnings or book value. Fundamentally weighted indexes provide a benchmark for passively managed funds offered to investors seeking exposure to stocks based on fundamental characteristics.

BREAKING DOWN 'Fundamentally Weighted Index'

Fundamentally weighted indexes grew from investor interest in passive management. They became more prevalent in 2004 after research on them was introduced by Research Affiliates. Interest in fundamentally weighted indexes has continued to increase as more fund companies have built customized indexes representing specific investment aspects of the investment market. (See also: Introduction to Fundamentally Weighted Index Investing.)

Passively managed fundamentally weighted indexes are part of a new wave of tracker fund offerings. Customized tracker funds are passively managed index funds that go beyond mainstream index offerings, seeking to replicate customized indexes constructed based on a wide range of characteristics.

Fundamentally weighted indexes are some of the most prominent customized indexes used by passively managed tracker funds. Fund companies will often create their own customized fundamental index in order to build a replicated portfolio around it for issuance to the public as a structured fund. By using customized fundamentally weighted indexes, investment companies can significantly reduce costs and improve efficacies through lower transaction expenses and annual rebalancing.

Proponents of these indexes claim that they can offer higher potential return based on aggregate fundamental measures of the market versus market capitalization. Across the industry they can be constructed using a broad range of fundamental factors that have historically proven to be successful metrics in identifying top-performing investments over time.

FTSE RAFI Fundamentally Weighted Indexes

The Financial Times Stock Exchange (FTSE) in partnership with Research Affiliates has many fundamentally weighted indexes. Indexes are weighted using fundamental factors such as total cash dividends, free cash flow, total sales and book equity value.

The PowerShares FTSE RAFI U.S. 1000 ETF is one fund managed to a FTSE RAFI Index. The Fund seeks to replicate the holdings and performance of the FTSE RAFI US 1000 Index.

Customized Fund Offerings

Wisdom Tree is one fund provider that has taken a lead on offering fundamentally weighted proprietary indexes. The firm’s domestic quality equity ETFs offer investors three passively managed fundamentally weighted index portfolios including: WisdomTree U.S. Quality Dividend Growth Fund (DGRW), WisdomTree U.S. Small-Cap Quality Dividend Growth Fund (DGRS), and WisdomTree U.S. Quality Shareholder Yield Fund (QSY).

RELATED TERMS
  1. FTSE RAFI US 1000 Index

    The FTSE RAFI US 1000 Index is an index of stocks based on the ...
  2. Indexing

    In the financial markets, indexing can be used as a statistical ...
  3. Tracker Fund

    A tracker fund is an index fund that tracks a broad market index ...
  4. Fundamental Analysis

    A method of evaluating a security that entails attempting to ...
  5. Index Investing

    Index investing is a passive strategy that attempts to track ...
  6. Portfolio Weight

    The percentage composition of a particular holding in a portfolio. ...
Related Articles
  1. Investing

    Introduction To Fundamentally Weighted Index Investing

    If you believe the market smiles on those who focus on value, growth or income, this vehicle may be for you.
  2. Investing

    An Introduction To Sector ETFs

    Find out how sector ETFs can give your portfolio the punch it needs.
  3. Investing

    ETF for FTSE High Dividend Yield Index (VYM)

    Discover a high dividend yielding exchange-traded fund (ETF) that almost perfectly mimics the performance and behavior of the FTSE High Dividend Yield Index.
  4. Investing

    Fundamental Analysis for Traders

    Find out how the fundamental analysis method can be applied strategically to increase profits.
  5. Investing

    IWF: iShares Russell 1000 Growth ETF

    Learn about the iShares Russell 1000 Growth ETF, including how the fund is constructed, its holdings and its strong recent performance.
  6. Investing

    The Pros and Cons of Indexes

    Learn about the advantages and disadvantages of stock indexes and passive index funds. Discover how there is an opportunity cost to using index funds.
  7. Investing

    What Is Fundamental Analysis?

    Fundamental analysis is one of the basic ways to evaluate stocks. Find out what it is and how it can work for you.
  8. Investing

    Create Your Own US Equity Portfolio

    Find out how to structure your portfolio so you can maximize returns.
RELATED FAQS
  1. What are some examples of smart beta ETFs that use passive and active management?

    Learn about smart beta investment strategies and discover examples of smart beta exchange-traded funds that use both passive ... Read Answer >>
  2. How Do I Find Mutual Funds That Track Indexes?

    Two good sources for finding index funds are Fidelity Investments and Vanguard. Read Answer >>
  3. What does the S&P 500 index measure and how is it calculated?

    Learn about what exactly the S&P measures and why it's used by market participants as a tool to understand the broader stock ... Read Answer >>
  4. Is it possible to invest in an index?

    While you cannot buy indexes, which are just benchmarks, there are three ways for you to mirror their performance. Read Answer >>
Hot Definitions
  1. Return On Equity - ROE

    The profitability returned in direct relation to shareholders' investments is called the return on equity.
  2. Working Capital

    Working capital, also known as net working capital is a measure of a company's liquidity and operational efficiency.
  3. Bond

    A bond is a fixed income investment in which an investor loans money to an entity (corporate or governmental) that borrows ...
  4. Compound Annual Growth Rate - CAGR

    The Compound Annual Growth Rate (CAGR) is the mean annual growth rate of an investment over a specified period of time longer ...
  5. Net Present Value - NPV

    Net Present Value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows ...
  6. Price-Earnings Ratio - P/E Ratio

    The Price-to-Earnings Ratio or P/E ratio is a ratio for valuing a company that measures its current share price relative ...
Trading Center