A strategic look at exchange-traded funds
This U.S. advisory prescribes a few simple ways to pursue investment ideas through exchange-traded funds, including a Canadian energy ETF.
Exchange-traded funds began as a simple idea. The sum is safer than its parts.
That is, if you invest in a major stock index, you will avoid the lows that can come with individual stocks and mutual funds — even if you also miss out on some of the highs.
But that simple idea has exploded (as such things tend to do when the investment trade realizes it has a hot property on its hands).
The unassuming index fund has multiplied into a long list of exchange-traded funds, or ETFs. For different assets, different industries, different regions, you have a gaggle of ETFs competing for your attention.
The most thorough look at ETFs we have seen lately comes from a leading U.S. advisory we consult regularly, Personal Finance.
This advisory also happens to follow Canadian investments far more closely than most of its U.S. counterparts. And the first ETF it recommends to its readers tracks Canadian energy.
But first we’ll see why these funds have become so popular.
Lower price tags
The first index fund appeared 25 years ago, thanks to Mr. John Bogle of Vanguard Funds. ETFs began as early as 1993 with Standard & Poor’s Depositary Receipts (NYSE-SPY), or SPDRs (popularly referred to as Spiders), says Mr. Benjamin Shepherd, writing for the advisory.
But it was not until this past decade that ETFs really began to flourish. Indeed, some U.S. observers believe they could overtake mutual funds in total assets under management.
Most ETFs still passively track an underlying index like the S&P/TSX Composite or the S&P 500. “But about 10 years ago asset managers began creating custom indexes that have evolved to track almost every asset class, a multitude of industries and various sub-markets in almost every market in the world,” explains Mr. Shepherd.
A year ago, the final frontier was crossed when the U.S. Securities and Exchange Commission allowed actively managed ETFs on to the market.
“The development of the ETF market benefits individual investors because these funds carry lower price tags and allow greater flexibility,” says the author. Since most do without the sales forces or management teams mutual funds have on board, their fees are about two-thirds lower.
Thus they give investors a low-cost, diversified entrée into some intriguing investments. Like the Canadian oil patch.
Two favourite energy trusts
“Offering impressive yields and solid business prospects, Canadian income trusts have long been favorites in Personal Finance,” Mr. Shepherd tells his readers.
Claymore/SWM Canadian Energy Income ETF (NYSE-ENY) holds 24 Canadian oil and gas outfits. Included in the group, the author says, are two energy trusts the advisory likes.
Enerplus Resources (TSX-ERF.UN; NYSE-ERF) was a long time resident of the advisory’s Growth Portfolio. Vermilion Energy Trust (TSX-VET.UN; OTC-VETMF) is still a mainstay of its Income Portfolio.
The author also explains that a new interpretation of Canadian tax law will allow U.S. investors to avoid withholding tax on the distributions of Canadian companies as long as these are held in a tax-advantaged account. This make the ETF that much more alluring.
Trading exclusively in New York (though it is not cited here, Claymore has a more specialized oil sands ETF trading on the TSX), Claymore Canadian Energy is a buy up to US$20, says the author. It is currently trading at $17.07 and yielding 2.7 per cent on its dividend of $0.46.
And in this survey of ETFs, oil and water do mix.
A looming disaster
“Potable water is becoming an increasingly scarce resource,” says Mr. Shepherd. “But global governments are spending huge sums to prevent a looming hydration disaster.”
The U.S. alone will spend $340 billion over the next decade to upgrade its water systems and combat contamination. Around the world, that figure may add up to an eye-popping $22 trillion over the next two decades.
PowerShares Global Water Portfolio ETF (NYSE-PIO) should “harness the flow” of profits, says the author. Its 30 holdings range from industrial companies that make pumps, pipes and valves to information technology firms that produce metres and monitoring systems.
A buy up to US$20, this ETF trades at $17.24 and yields 2 per cent on its dividend of
There are two more areas this advisory thinks investors should consider through the prism of ETFs — infrastructure and materials.
Mr. Shepherd specifically points to China and India as nations that are going to spending enormous amounts on urbanization, transportation, utilities and everything else a multiplying population needs.
Among the ETFs in the race, he prefers iShares S&P Global Infrastructure ETF (NYSE-IGF). It has a strong portfolio of international firms — and it also trades at healthier volumes than its competitors.
A buy under US$38, it trades at $32.80 and yields 3.7 per cent on its dividend of $1.20.
Material firms are fighting back “after being severely punished by the recession,” concludes Mr. Shepherd. Many commodity prices have already clambered up the ladder.
He likes an ETF that favours the heavyweights in the industry, such as BHP Billiton (NYSE-BHP), Rio Tinto (NYSE-RTP) and Potash Corp. of Saskatchewan (TSX/NYSE-POT).
iShares S&P Global Materials ETF (NYSE-MXI) is a buy under US$70. It trades at $59.26 and yields 0.7 per cent on a 43¢ dividend.
ETFs certainly give investors a safer and cheaper way to invest in many assets and industries without having to cherry pick specific stocks.
And the way they’re growing, it seems clear that they are winning more friends and influencing more people.
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