For better worse, the rapid growth of the exchange traded products business has delivered to investors some, shall we say, interesting concepts. Sure, plenty of new ETFs and ETNs that have come to market over the past few years have kept up with the tradition of tracking a particular stock or bond index, commodity or country.
Generally speaking, these are the ETFs and ETNs that a pretty easy for investors to understand. Buy the SPDR S&P 500 (NYSE:SPY) and you know that you’re getting an ETF that should come very close to replicating the performance of the S&P 500.
Easy-to-understand ETFs such as SPY are where the ETF industry made its bones, but there are now close to 1,200 ETFs and ETNs trading in the U.S. and with that ever-expanding lineup has come a fair amount of niche or specialty ETFs.
I’ve written a lot about what I call niche ETFs and done plenty of research on them over the past couple of years and I when use the term “niche” or specialty” ETF, it is to refer to a fund that has a concentrated focus on a particular investment theme. Analyzing plenty of these ETFs has taught me that some aren’t worth the trouble, but there are plenty that are worth a look, IF an investor knows what he’s getting into before buying. Allow me to show you a trio of specialty ETFs that require some research to prevent disappointments and surprises.
- IQ Merger Arbitrage ETF (NYSE:MNA):MNA’s title is part of the transparency, but plenty of investors and pundits make the mistake of thinking that the ETF is a play on future ETF activity. In reality, that’s not the case because as an ETF that is a play on arbitrage, it focuses on companies that are the targets of announced takeovers. Consider this, M&A activity picked up in 2010 and is off to a brisk start in 2011, but MNA is down 1% in the past year. The key factor with MNA is to remember it’s all about announced, not rumored, takeovers.
- Guggenheim Spin-Off ETF (NYSE:CSD):It’s hard to argue that spin-offs are usually a pretty good deal for shareholders. Own stock in ABC Corp. and it decides to spin-off one of its units and you’ll get some free shares and that equals free money. So CSD has got to be a great ETF, right? Not so fast. I’ll give credit where it’s due and tell you that CSD is up 11.5% in the past year, but check out the fine print from the prospectus:
“The universe of companies eligible for inclusion in the Index includes companies that have been spun-off within the past 30 months but not more recently than six months prior to the applicable rebalancing date…”
Allow me to translate: Due to those time constraints, some of the best spin-offs ever (think Coach (NYSE:COH), Chipotle (NYSE:CMG), Yum Brands (NYSE:YUM)) are nowhere to be found in CSD.
- First Trust US IPO Index Fund (NYSE:FPX):Speaking of time constraints, when does a stock cease to be considered a new offering? I don’t know the exact answer, but it’s doubtful anyone considers Philip Morris (NYSE:PM) and Visa (NYSE:V) new stocks anymore. They went public in 2008. As is the case with CSD, FPX has generated double-digit returns in the past year, but the exposure to the really sexy IPOs of 2010 and 2011 is scant in this ETF. Molycorp (NYSE:MCP) barely makes a dent and none of the high-flying Chinese Internet IPOs crack FPX’s lineup.
Moral of the story: Kick the tires before jumping into the car.
Todd Shriber is an ETF fanatic, a former hedge fund trader, and a journalist. Todd started his professional career with Bloomberg News, where he covered banks, energy and technology. After leaving Bloomberg, Todd became a trader at a California-based hedge fund where he specialized in trading financials, energy, basic materials, and ETFs.
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