ETF's Everywhere {Conclusion}

Today we conclude our series on last week's Barrons cover story on ETFs. {Excerpt with my highlights.}

The most controversial ETFs are those designed to move two and three times the daily change in their underlying indexes by using leverage or financial derivatives. There are 290 leveraged and inverse ETFs, with $40 billion in assets, BlackRock says.

These funds have been criticized because over long periods, they often don't track the underlying indexes. That isn't because of an inherent flaw, but because of the effects of compounding often large daily movements.

As a result, the Financial Industry Regulatory Authority (Finra) said last year that "inverse and leveraged ETFs that reset daily typically are unsuitable for retail investors who plan to hold them for longer than one trading session, particularly in volatile markets.".... 

To take a simple example, if financial stocks rise 10% one day and fall 10% the next day, the index will drop 1%, to 99, from the original 100 level. A three times leveraged bullish fund would rise to 130 on the first day and then fall to 91 on the second, a 9% drop. The bearish fund would slip to 70 on the first day before rallying to 91 on the second, also producing a 9% decline......All the inverse double-leveraged sector ETFs on the S&P 500 are off sharply this year.

In a cover story at the start of 2009, Barron's argued long-term Treasury yields, then around 2.70%, probably would go higher. That's been the case, with the 30-year T-bond, now yielding 4.25%. The ProShares UltraShort 20-Year Treasury (TBT), however, is down about 10% since then, to 35. It offers the inverse of twice the daily change in the price of long-term Treasuries.

Despite its drawbacks, the TBT is one of the few ways for individuals to bet on higher long-term Treasury rates. The rates already have risen 0.25 percentage point this month and could approach 5% if the Fed's controversial second quantitative easing program boosts inflation and a rout ensues in the bond market. It isn't easy for individuals to short Treasuries. Another alternative is to short the iShares Barclays Capital 20+ Year Treasury Bond ETF (TLT).

Dividend-oriented equity ETFs have been popular this year, including the SPDR S&P Dividend ETF (SDY), which buys S&P's dividend "aristocrats" with a history of 25 years of payout increases, and the iShares DJ Select Dividend Index Fund (DVY), which tracks the Dow Jones dividend index.....

It's easy to get low-cost bond exposure via ETFs, including the SPDR Barclays Capital High-Yield Bond (JNK), which now yields 8.5%, and the iShares S&P National AMT-Free Muni (MUB), which yields 3.5%......

COMMODITY ETFS like the UNG that use futures can be hurt by contango, a term that simply means that future prices are higher than current or spot prices. Contango forces an ETF to roll its spot contracts into higher-priced futures. The UNG has badly trailed gas prices since its creation. That said, it offers a play on the depressed gas market. Prices are down 35% this year, to $3.70 per million BTUs, and are trading at a historically low valuation, relative to oil, now at $86 a barrel. Some investors prefer ETFs that hold physical assets, although that can be tough for some commodities, owing to storage constraints.

Investors can get ETF information from many Websites, including cefconnect.com, xtf.com, etfdb.com and etftrends.com, as well as Morningstar, Yahoo! and Marketwatch.com.  Regardless of how they do it, investors should learn more about ETFs, because they're here to stay—and are growing more important every day.

Link:  ETF's Everywhere

*Long ETFs related to the S&P 500 in client accounts.  Long certain ETFs that are leveraged to the upwards movement of certain index prices in certain client and personal accounts.  Long TBT in client and personal accounts.  Long SDY and DVY in client accounts.  Long certain commodity related ETFs in client and personal accounts.