Actionable ETF Investment Ideas: August 2011
Equities have taken a breather since their robust start in 2011 and July was no different, as volatility remained high throughout the entire month given the ongoing debt-drama at home and overseas in the Euro zone. A string of gloomy economic reports, including dismal U.S. GDP data, put investors in a fearful mood and paved the way higher for gold and other corners of the fixed-income market.
Against this backdrop, we outline four actionable ETF ideas we believe are poised for outperformance over the next 30 days to 90 days, including a long/short play in Europe, a bet on agricultural futures, and a play on an emerging market:
CurrencyShares Australian Dollar Trust (FXA)
Betting against the dollar has become a popular play in recent weeks, as the greenback has come under intense pressure thanks to the stalemate in Washington and lingering possibility of a downgrade from major ratings agencies. Yet the challenge in betting against the U.S. currency is finding another side to the trade; unlike establishing a bullish position on stocks or bonds, betting against a currency requires a counterparty. In other words, an investor can’t bet against the dollar in isolation; there must also be another currency that is being bet on.
That’s tricky, because many of the other major economies are facing significant issues as well. Japan’s debt burden is considerably larger than that of the U.S. (relative to GDP), and concerns about intervention to weaken the yen are hard to ignore. Europe is a fiscal house of horrors, and the potential pitfalls for the euro are both numerous and severe. Even emerging markets face upticks in inflation that threaten to erode the relative values of their currency relative to developed markets.
But Australia looks like a relatively good bet. Interest rates down under are the highest in the developed world, and the country’s abundance of natural resources and relatively small population has allowed it to maintain a level of fiscal health that can be found in few of the world’s advanced economies in this environment. With U.S. rates expected to remain depressed for the foreseeable future, it seems very likely that the Aussie dollar will gain on the greenback regardless of the outcome in Washington this week.
This pick is largely a result of continued uncertainty in Europe and more worries over a meltdown in sovereign debt of the PIIGS members. Many nations in the euro zone are teetering on the brink and since new bailout funds are being proposed seemingly by the week, the crisis appears to be uncontrollable and is likely to continue well into the fall. Furthermore, oil prices are still very high both in WTI and Brent terms and this should allow the few oil exporting countries in Europe to continue to outperform in the near term. Both of these trends are good news for Norway as the country uses its own currency, the krone, and is relatively immune from turmoil in the euro zone. Additionally, Norway’s main exports are minerals and energy products so European nations have great difficulty in buying up these goods in cheaper locales; the price is the same everywhere. Thanks to this, Norway will not see a drastic reduction in exports to EU nations as a result of the crisis, helping to carry the country safely through any additional turmoil. This is further reflected in the makeup of NORW; the fund has more than two-fifths of its assets in energy firms, making it well positioned to benefit from high oil prices, especially in Brent oil terms which are now approaching $120/bbl. yet again.
Thanks to these trends, investors should consider going long in NORW and shorting VGK in order to elimate some of the region wide risk. Although NORW has underperformed its more popular counterpart on a year-to-date basis, the fund has outperformed significantly over both the four week and two week periods. I expect this trend to continue into August, especially if crude oil prices remain elevated, creating significant tailwinds for this fund from Global X.
Long PowerShares DB Agriculture Fund (DBA)
Commodities were fairly resilient last month compared to equities as a whole, with precious metals boldly charging higher while agricultural goods largely finished the month in positive territory as well. From a year-to-date perspective, SPY has been outperforming DBA by a little less than 200 basis points. This relative difference in performance may soon be reversing however, as equity markets have been mostly directionless and plagued with volatility. In fact, this past month SPY shed close to 2% while DBA held it’s ground and even inched higher, gaining just over 1.5% for the month.
DBA is poised to do well from a fundamental perspective, since this fund provides exposure to agricultural futures, making it a potential source of uncorrelated returns given the historically low correlation between the commodities asset-class and large cap equities. Commodity investing is also considered a “defensive” strategy, and it may take on further appeal if the debt dilemma at home spirals out of control and investors flock to “safer” corners. From a technical perspective, this ETF has tons of upside potential and limited downside risk, since it has been trending sideways for the last two months and it appears to have established support above the $32 level.
Long Market Vectors Indonesia Index ETF (IDX)
It was Warren Buffet who cautioned investors to be weary of a sector when others are greedy, and greedy of sectors when others are weary. And investors are quite weary over emerging markets this year. While 2010 saw many emerging market ETFs post astronomical gains, 2011 has seen many struggle to find their ground. While inflation has been cited as one of the major issues, demand and growth slowdowns have also contributed to this year’s bleak emerging market outlook. While this year has seen major Brazil and India ETFs, EWZ and INP lose 3.8% and 12.4% respectively, IDX has gained nearly 10% as it has been on a tear in recent months. The fund split its shares 3 for 1 in February and has continued to be a strong performer.
Many feel that the Indonesian economy features a more stable and well-rounded market than some of the more popular BRIC nations as well as a better performance than the majority of these products this year. Compared to other smaller emerging market nations like Malaysia or Thailand, Indonesia relies much less heavily on international trade and global trends, so many of the financial issues saddling the developed world have little affect on the country. Indonesia is a solid emerging market, and IDX does a good job of offering granular exposure to its economy.
Last Month’s Actionable ETF Plays
Last month’s actionable ETF plays were mixed, with a couple nice gains being overshadowed by a sizable loss in RSP:
|Ticker||ETF||Monthly Return||Our Take|
|CCXE||Long Commodity Country Equity Fund||
|This pick rewarded us with a modest gain as weakness in the U.S. dollar paved the way higher for commodity currencies, including the Aussie dollar which soared to record highs near the end of July. CCXE has the potential for more upside since debt-crisis fears at home and abroad have by no means evaporated.|
|RSP||Long S&P Equal Weight ETF||
|This long recommendation suffered a loss this month, and surprisingly enough, the cap weighted SPY shed only 2% in the same time period. Nonetheless, RSP remains attractive and the fund alternative weighting methodology is certainly still capable of outperforming cap weighted competitors over the long-run.|
|GXG/ILF||Long InterBolsa FTSE Colombia 20 ETF/Short iShares Latin America 40 Index Fund||
|Our predication that GXG will continue to outperform ILF was incorrect and the trade recommendation resulted in a small loss. Hedging our long GXG position served us well nontheless, keep in mind that had we not shorted ILF, this recommendation would be instead down 3%.|
|YAO/BIK||Long Guggenheim China All-Cap ETF/
Short SPDR S&P BRIC 40 Fund
|This recommendation was well-timed on our part as emerging markets largely took a dive lower in July, while Chinese equities managed to hold their ground a bit better, leaving us with a respectable profit from this hedged trade. Investors should consider pair trades like this one since they can help to smooth out volatility and cut losses if investors turn away from the asset-class as a whole.|
|ETFdb 60 Index||
|Dragged down by abysmal performances from both domestic and international equity markets, our index of asset classes available through|