ETF Update: Saner Investing With ETFs, Tax Surprises, Alt Energy Troubles, Regional Bank ETF Changes

Saner Investing With ETFs

Why would an investor pick one stock, when he or she could instead pick 75 in an exchange traded fund? Beats us.

Sector investing has become the norm with the advent of the mutual fund and ETFs.

While some stocks might outperform an ETF, you didn’t know this would be the case when you bought the stock. It can be a tough call, and ETFs take the difficulty in choosing out of the equation.

Take a look at the technology sector, for example. Who are you going to pick? How do know who the winners are and who the dogs will be?

As an example, for a time, Google (GOOG) and Yahoo (YHOO) were performing differently. Choosing one or the other might have been a time-consuming task for an investor doing research on both. But several technology ETFs offer exposure to both these companies and many others.

Of course, while any basket of stocks limits the downside protection, it can also limit the upside gain, says ETF Guide. As an investor you have to ask which is more important: the peace of mind knowing you are protected or the tremendous possible gain at the price of your sanity.

Take this latest market situation, where the financial markets have unraveled many other areas of the stock market. The amount of agony any one investor has felt may only be the beginning, so knowing your portfolio is spread across the spectrum can help you sleep better at night, if you are invested in sector ETFs.

Mutual Fund Tax Shocker

Both mutual funds and ETFs have taken their licks in the downturn, but mutual funds are about to start adding insult to investor injury.

Even though the average U.S. diversified stock fund is down 33% through Monday, investors might find themselves having to pay big tax bills anyway, reports Tom Herman for the Wall Street Journal.

Mutual funds generally pay net capital gains to investors at the end of each year, and they’re typically taxable if the investments are held in a taxable account. But even though the market has been in a free-fall for much of this year, investors might be receiving capital gains distributions anyway.

There have been so many redemptions in mutual funds that managers are finding themselves digging into their low cost basis stocks to meet these redemptions.

Herman suggests that investors either exit before getting saddled with a capital gains distribution, and those investors getting in ought to make sure that there won’t be one. The last thing anyone wants is a surprise tax bill.

This just kicks investors while they’re down, forcing them to pay taxes when their holdings have already declined substantially. With ETFs, though, this isn’t an issue, as their tax efficiency is one of their primary selling points. Capital gains aren’t paid until a fund is sold, so there are no surprises.

Oil's Plunge Bad News For Alt Energy

Proponents of alternative energy and the sector’s ETFs were among the few rejoicing at the higher cost of oil. 

Evidently, the alternative energy sources such as wind and solar are facing challenges as the oil and natural gas prices fall and the credit crunch has tightened the budget for these burgeoning industries. When oil was $147 a barrel, there was major incentive to explore opportunities for different energy sources.

Shares of alternative energy companies have fallen even more sharply than the rest of the stock market in recent months, says Clifford Krause for The New York Times. Investment capital for the bigger renewable energy projects that were getting off the ground may now become scarce.

Advocates are concerned that if the prices for oil and gas keep falling, the incentive for utilities and consumers to buy expensive renewable energy will shrink, similar to the 1980s cycle. The newer technologies are at risk because of the shrinking surplus of capital. Government subsidies will be harder to obtain because of economic problems that are preoccupying Washington now.

Wilderhill Clean Energy (PBW) is down 61.5% year-to-date vs. the S&P 500, which is down 35% in the same time frame.

Regional Bank ETF Changes

We might be seeing a rash of financial index component changes down the line that will affect their ETFs as the uncertainty of our banking system continues.

For now, the underlying index of the KBW Regional Banks (KRE) fund will have some changes. This ETF has managed to fare pretty well in the wake of the larger financial turmoil. Regional banks have also benefited from minimal exposure to the subprime crisis.

MarketWatch reports that these changes will be effective today:

• Sovereign Bancorp (SOV) will be deleted from the index. All three major rating agencies said on Tuesday that they may raise their ratings after Banco Santander of Spain said it would buy the U.S.-based savings and loan, reports Karen Brettell for Reuters.
• Hancock Holding Corp. (HBHC) will be added. HBHC provides a number of financial and banking products to small and middle market businesses in Mississippi, Louisiana, Florida, and Alabama.