Over the last few years, ETFs have seen a tremendous surge in use and popularity among all breeds of investors for a number of reasons. Some are attracted to the low costs. Others value the tax efficiency and liquidity. I love ETFs (in part) because they facilitate a “top-down” approach to investing. Picking individual stocks comes with far too much risk for my liking. Even if you pick the right sector, a bad pick still leads to the wrong result. I’d much rather make an investment based on macroeconomic trends or sector-specific developments than comb through financials of individual firms looking for the next Google (needless to say, I’m a big fan of tactical asset allocation).
As the ETF industry has expanded, investors have been given an efficient way to access just about every asset class, region of the world, and investment strategy. I see potential ETF plays in just about every headline. I wonder how a disappointing GDP report for the UK will impact EWU, and how the minutes from the latest Fed meeting will move TLT. So it’s fair to say that I think about ETFs a lot. The ever-expanding scope of the industry means that there’s an ETF play for just about every investment thesis, hunch, or trend. If you’re not convinced, consider some of the ETF plays we uncovered around one of the world’s most popular board games, Monopoly.
Income Tax: MUB
Just as all Monopoly players try to avoid forking over their $200 to Uncle Sam, savvy investors are always looking for ways to minimize their tax liabilities. The unique creation and redemption processes for ETFs are a nice start, offering the potential to slough off low basis shares and delay tax payments for investors. For those in the higher tax brackets, municipal bond ETFs can offer very attractive yields relative to other fixed income funds. Because the interest payments from ETFs such as the iShares S&P National Municipal Bond Fund (MUB) and SPDR Barclays Municipal Bond ETF (TFI) are exempt from federal taxes, the taxable equivalent yields offered by these funds can significantly exceed comparable returns from taxable bond funds (see a complete list of national muni bond funds, California muni ETFs, and New York muni ETFs).
Landing on this spot always involves a (figurative) roll of the dice, with the potential for both enrichment and loss. For investors bullish on the future prospects for the gaming industry, the Market Vectors Gaming ETF (BJK) offers exposure to stocks of companies that derive at least 50% of their revenues from the global gaming industry, including casino operators, gaming technology companies, sports & race books, and online gaming sites.
While big cutbacks in discretionary spending have dealt a blow to the gaming industry over the last two years, significant budget shortfalls in a number of states has led to serious consideration of an increased gaming presence in a number of locations to make up the gap. Pennsylvania and Ohio are among the states considering the legalization of various forms of gambling, a move that could give BJK a boost.
Electric Company: XLU
Utilities companies are generally among the most stable stocks available to investors, as relatively constant demand for their products and a stranglehold on pricing power allows them to withstand economic downturns. With an annualized volatility of under 6% and a beta of 0.65, the Utilities Select Sector SPDR (XLU) certainly fits that mold. Since its inception in December of 1998, this ETF has delivered a steady annualized return of about 3.6%. With an expense ratio of just 21 basis points, XLU is an attractive option for investors looking to add some low beta equities to their portfolio (see a complete list of utilities ETFs and a breakdown of performance drivers here).
Community Chest: SGOL
As numerous uncertainties have weighed on the U.S. dollar this year and concerns about runaway inflation loom, investors have flocked to gold this year as a store of value and a safe haven investment. After recently reaching all-time highs, gold prices continue to hover above the psychologically important $1,000 an ounce mark, with many investors convinced that there remains plenty of room on the upside for the yellow metal.
Every investor knows GLD, the $20 billion SPDR that is one of the largest holders of gold bullion in the world. Another attractive gold ETF option is the ETF Securities Physical Swiss Gold Share (SGOL), a fund that stores gold in secure vaults in Switzerland (GLD keeps its gold in the U.S.). In addition to geographic and custodian diversification for investors with large gold holdings, SGOL offers a competitive expense ratio of 39 basis points (compared to 40 for GLD). See our complete guide to gold ETFs for a look at all funds offering exposure to this precious metal.
B&O Railroad: IYT
While the idea of taking a railcar across the county is antiquated to most Americans, railroads are still big business, a vital part of the business infrastructure in this country. The iShares Dow Jones Transportation Average Index Fund (IYT) is based on an index that measures the transportation sector of the U.S. equity market, including railroads and other industrial transportation companies.
Among IYT’s biggest holdings (as of October 21) are Burlington Northern Santa Fe (11.2%), Union Pacific (8.3%), Norfolk Southern (4.9%), and CSX (4.9%). IYT suffered some sharp losses during the recent downturn as industrial transportation needs plummeted, but has rebounded steadily over the last year (although recent earnings reports paint a not-so-rosy picture).
Water Works: CGW
Investing in water sounds downright foolish to most investors. But as terrifying as it sounds, water could become one of the scarcest commodities in the world over the next 50 years. If such a development plays out, the water treatment, infrastructure, and delivery industries could become an increasingly important part of the global economy. The Claymore S&P Global Water Index ETF (CGW) offers exposure to this intriguing sector.
To be clear, this ETF doesn’t invest directly in water, but rather in stocks of water utilities and infrastructure companies (including water supply, water purification, and water well drilling) and water equipment and materials companies (including water treatment chemicals and appliances, pumping equipment, and water meters). If water procurement becomes a major concern in coming years, these companies could see demand for their services skyrocket.
Pacific Avenue: EPP
When most investors consider exposure to the Asian Pacific, Japanese stocks are all that comes to mind. While investments in the world’s second largest economy is certainly a key component of a well-rounded portfolio, there’s a lot more to this region of the world than Japan. The iShares MSCI Pacific ex-Japan Index Fund (EPP) tracks a benchmark that invests in Australia, Hong Kong, Singapore, and New Zealand, among others.
Japan’s economy was one of the hardest hit during the recent recession, but the rest of the Asia Pacific region has held up rather well. Earlier this month, Australia became the first developed country to raise interest rates, a sign of considerable strength in its resource-rich economy. EPP has gained almost 70% in 2009, compared to only 1% for the iShares MSCI Japan Index Fund (EWJ).
Luxury Tax: ROB
There is a now famous tenet of Buffett investing: “Be fearful when others are greedy and greedy when others are fearful.” Purveyors of luxury goods have seen their stocks plummet over the last two years as demand for designer Coach purses, Swatch timepieces, and Porsches have plummeted. All three of the aforementioned companies are major components of the Claymore/Robb Report Global Luxury Index ETF, a fund designed to replicate the performance of the global luxury goods and services industry.
If an economic recovery proves sustainable, consumers should begin loosening up their budgets and spending again on big-ticket items. A recent report from consultants Bain & Co. gave reason to be bullish on this sector, as sales are expected to begin growing again next year, especially in Asia.
The consumer discretionary sector of the U.S. economy was hit particularly hard by the recent recession, as consumers have turned to discount retailers like Wal-Mart to cut household expenses. Discretionary business spending has likewise been slashed, as lavish corporate parties have been replaced with picnics and stays at the Ritz have given way to business trip lodging at the Super 8.
The PowerShares Dynamic Leisure and Entertainment Portfolio (PEJ) invests in the entertainment industry, with big holdings in Disney and Viacom, along with restaurants, resorts, and venues such as Churchill Downs. For investors looking for a play on a quick, strong recovery, PEJ is an interesting option.
Passing Go: KBE
The end of our trip around the Monopoly board comes with a look at the financial sector. After the unprecedented meltdown of 2008, this industry has found its footing a bit, but remains well below pre-crisis levels, and certainly isn’t out of the woods yet.
The SPDR KBW Bank ETF (KBE) is based on a benchmark composed of banks and thrifts. After an earnings season that lacked any devastating results, confidence in this sector appears to be on the rise, although the uncertainty of the potential fallout from exposure to commercial real estate still hangs over many financial institutions.
Disclosure: No positions at time of writing.