I've assigned a "sell" rating to FNK and believe most investors in this category are better served with low-cost passive funds.

The First Trust Mid Cap Value AlphaDEX ETF (NASDAQ:FNK) is a low-quality, expensive, and risky dynamic mid-cap fund that excels primarily on one factor: value. Its 10.94x forward P/E is the lowest in its category and among the top 2% of all 900+ U.S. Equity ETFs I track, but getting the timing right is too challenging to attempt. Since FNK began tracking its current Index, it's lagged benchmarks like the iShares S&P Mid-Cap 400 Value ETF (IJJ), and I find these simpler and lower-cost products to be superior. As a result, I have assigned FNK a "sell" rating, and I look forward to explaining why in more detail below.

FNK tracks the Nasdaq AlphaDEX Mid Cap Value Index, selecting 225 stocks from the Nasdaq US 600 Mid Cap Value Index based on their rank on specific growth and value factors. The factors assessed are as follows:

Each stock receives either a growth or value score based on its style designation, which Nasdaq determines and the 225 selected stocks are divided into quintiles based on their scores. Weights are assigned as follows:

Lastly, the Index is reconstituted and rebalanced quarterly, which leads to high portfolio turnover. As shown below, turnover was 102% for the fiscal year ending July 31, 2023, and averaged 102% from 2019 to 2023.

FNK launched on April 19, 2011, but it only began tracking its current Index on April 8, 2016. Since that date, it's lagged behind IJJ by about 8% (128.53% vs. 135.16%). FNK has also trailed the WisdomTree U.S. MidCap Earnings Fund ETF (EZM) and the Invesco S&P MidCap 400 Pure Value ETF (RFV) by 9% and 41%, respectively.

Portfolio Visualizer provides some additional information on risk and returns. Since April 2016, FNK's annualized standard deviation of 23.47% has been the second highest in this peer group. This volatility, along with its relatively low 9.97% annualized returns, led to poor risk-adjusted returns, as measured by the Sharpe and Sortino Ratios.

In addition, FNK has underperformed IJJ in most years since 2016. As shown below, it missed by 2-5% from 2018 to 2020 but had its best year in 2023, outperforming by 5.76%.

Below are the sector allocation differences between FNK, IJJ, EZM, and RFV. All four ETFs focus on Consumer Discretionary and Financials, leaving them exposed to interest rate changes and consumer spending trends. FNK and RFV have the most significant exposure to these two sectors.

FNK differentiates with 12.24% in Energy stocks, whose prices tend to rise and fall with inflation and, by extension, interest rates. Therefore, it's not set up well for a rate cut, which is the expectation later this month.

The following table highlights selected fundamental metrics for FNK's top 25 sub-industries, which total 63.15% of the portfolio. I've also included summary metrics for IJJ, EZM, and RFV at the bottom.

1. FNK trades at 10.94x forward earnings, which is even better than RFV, a "pure value" ETF. It's also 2-4 points better than IJJ and EZM, so I think if you're confident in a value rotation, FNK makes sense. Here are some additional valuation metrics that support this view:

Compared to IJJ, FNK has lower valuation metrics across the board. Using Seeking Alpha Factor Grades, I also derived a 6.61/10 sector-adjusted value score, which is far better than IJJ's 4.97/10 score, so the strategy really does a good job hitting the value factor. Similarly, RFV's 6.63/10 value score is excellent, and backed by an incredibly low 0.43x price-sales ratio. You might have a preference depending on what you value most (earnings or sales). However, RFV has a much stronger track record and a lower expense ratio (0.35% vs. 0.70%), so I suggest value investors lean this way.

2. The benefits of choosing a broad-based mid-cap value ETF like IJJ or EZM are lower fees and a more well-rounded portfolio. They come with higher valuations but offer 4-5% estimated earnings growth. That feature will protect you should markets not favor the value factor, so it's really a question of confidence and what else you own. If you hold many value and dividend funds already, FNK won't help you achieve a more balanced portfolio and won't provide much downside protection. We saw that earlier in the performance analysis, and its current constituents have a high 1.30 five-year beta driven by its Homebuilding and Oil & Gas holdings.

3. Quality is a good tiebreaker if you're on the fence between FNK and IJJ. The sector-adjusted profit scores listed in the first table are good proxies for quality, and they indicate that FNK is slightly inferior (6.24/10 vs. 6.46/10). As an earnings-based fund, EZM scores slightly better at 6.67/10, but if you really want a high-quality mid-cap value fund, I suggest these five funds with much better scores:

One way to choose the best fund for you is to determine which factors you want exposure to while also considering other factors like an ETF's expenses, diversification, and liquidity. Once I ranked FNK on all its factors, it was clear that its main advantages are in value and size, supported by a relatively low average market cap ($6.75 billion).

The column on the far right is the average of factors and indicates that FNK, despite its #1 and #2 ranking on size and value, ranks only #16/18 overall. I think it's smarter to go with broad-based funds like IJJ that score reasonably well on most metrics, but if you're looking for exposure to specific factors, I hope this information helps.

FNK could be an appropriate solution for mid-cap investors looking specifically for exposure to the value factor. Its 10.94x forward P/E is the lowest in its category and second-best on a sector-adjusted basis. However, FNK has lagged behind low-cost funds like IJJ since its Index changed on April 8, 2016. These results illustrate the challenges fundamental investors face when predicting when markets will favor a particular factor and why investors are more likely to succeed with better-balanced funds. Therefore, I have rated FNK a "sell", and I look forward to your comments below. Thank you for reading.