Exchange-traded funds -- Page
It seems as though more companies are issuing ETFs
every day, trying to capture a share of the burgeoning market. Among
the biggest players are Standard & Poor's Depository Receipts,
or SPDRs, usually referred to as Spiders; Vanguard's VIPERs and
iShares, which are offered by Barclays Global Investors.
most do-it-yourself investors, the goal should be to build a diversified portfolio
that meets your future financial needs and suits your risk tolerance.
should start with a theme," advises Dan Dolan, director of Select Sector
SPDRs, which takes the S&P 500 stocks and divides them into nine sectors.
are you interested in buying? Some sectors are easy. Do you have an opinion on
the price of oil? What about health care? Do you believe in the demographic trends
and growth potential of the industry? Then find a low-cost way to act on a theme."
companies issue similar, competing ETFs. One way to choose among them is to look
at the expense ratio and find out how much it will cost you to own that ETF.
Let's use the health-care sector as an example. Here's
a look at the expense ratios for SPDRs, VIPERs and iShares.
|Health-care sector ETFs
|Vanguard VIPERs (VHT)||0.25%|
Sector SPDR (XLV)||0.25%|
Why pay more than you have to? You could look at performance,
but then you're looking at the past and, as we've all heard, past
performance is not a guarantee of future returns. Besides, since
ETFs track indexes, you'll see that they perform pretty much the
same. The difference might be if one weighted Pfizer, for example,
slightly heavier than Johnson & Johnson. If you look at the
top 10 holdings of each of the ETFs, you'll see almost exactly the
same stocks, although their weightings within each ETF may vary
slightly. While all of the stocks within each fund matter, it's
the top 10 that have the most ability to drive the fund up or down
on any given day because of their heavier weightings.
Because of their tax efficiency, it's smart to use
ETFs in a taxable account, but financial planners have found them
to be good candidates for a variety of investments. Stephen Wightman,
CFP with Wightman Financial Network, says his firm uses ETFs in
Coverdell Education Savings Accounts.
"We don't use mutual funds in Coverdells. We
use ETFs because of their low cost and transparency. It's very easy
to design an age-based asset allocation with ETFs. We know how much
of a particular sector to sell, or sometimes the whole sector, at
a given time. Unlike mutual funds, you can analyze right down across
sectors, weightings in small caps, large caps, duration of bonds
-- you can't do that with mutual funds. Mutual funds give you the
top 10 to 20 investments; that's not transparency.
the explosive growth rate, I forecast the day when people will wake up and smell
the cappuccino. Why should I pay all this money for services I don't need or want?
The mutual funds were in their heyday in the 20th century. ETFs heyday is now,
the 21st century."
Whether you buy stocks, mutual funds or ETFs, one
key to a sound portfolio is diversity. Holding large indexes such
as the S&P 500 is a good bet for just about any portfolio. Do
some studying of asset classes such as large, mid and small caps,
and perhaps consider major sectors such as utilities, energy, health
care and the like. You can get more specific with commodities and
investments in countries or geographic regions, but many experts
advise extensive research before making those commitments.
A final caveat, any time you're dealing with a basket
of stocks, you run the risk of buying funds that contain overlapping
stocks. ETFs list all the stocks they hold. Keep your portfolio
truly diversified by reviewing those stocks and comparing them with
other ETFs you may be considering.
Note: Laura Bruce owns several SPDR sector ETFs.