What Does 2010 Hold for Metals, Materials ETFs?

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 |  Includes: IXC, IYM, RYE, SLX, XLE, XME
by: Gary Gordon

It began with China spending 75%-85% of its massive stimulus package on internal infrastructure projects. Investors around the world began choosing the stock of companies engaged in the manufacturing/mining of iron ore, steel, copper, zinc, as well as platinum and palladium.

Creating demand for the materials, minerals and metals to build roads, buildings and railways lit the match. Yet the reflation spending by the U.S. government fueled a bonfire, as the U.S. dollar began sinking in value. Now commodities (priced in dollars) were rising and giving investors more reason to plow money into materials/metals ETFs.

Not surprisingly, two of the premier industry performers in 2009 were Market Vectors Steel (NYSEARCA:SLX) and SPDR Metals and Mining (NYSEARCA:XME). Not far behind is the stand-out sector producer, iShares Basic Materials (NYSEARCA:IYM).

Some believe that the reflation trade/risk trade/U.S. dollar carry trade ended with the Dubai credit blow-up. Yet if you look at the numbers from the first trading day of the New Year, you’d swear that the cyclical bull run is still led by the same pack of animals.

The More Things Change, The More They Stay The Same?
% 1/4/10 % Year-Over Year (Approx)
SPDR Metals and Mining (XME) 5.1% 82.0%
Market Vectors Steel (SLX) 4.4% 105.8%
Rydex Equal Weight Energy (NYSEARCA:RYE) 3.5% 42.8%
iShares Basic Materials (IYM) 3.3% 63.0%
SPDR Select Energy (NYSEARCA:XLE) 3.1% 19.7%
S&P 500 1.6% 21.7%
Click to enlarge

Can Materials ETFs and Metals ETFs continue to thrive? Without question. Will they continue to lead… now that’s a different story.

If you subscribe to the January effect, you might even see a path that sends the same winners to the front row at 2010 year-end; that is, Market Vectors Steel, SPDR Metals and Mining and iShares Basic Materials could be sitting in the driver’s seat.

After all, emerging economy demand for base metals remains vibrant. And prices on most commodities are still a long way from the prices they were fetching in mid-2008.

Of course, what if there’s another Dubai mess out there? Or what if central banks begin to tighten/raise interest rates due to better-than-anticipated economic growth? Without ongoing reflation, investors need to be prepared for different leadership to emerge.

One might look at the other 1-day powerhouses: Rydex Equal Weight Energy and SPDR Select Energy. The latter even underperformed the S&P 500 year-over-year; similarly, iShares Global Energy (NYSEARCA:IXC) picked up 3.1% on the first trading day and only marginally outperformed the S&P 500 on a rolling 12-month basis.

Granted, energy stocks face some of the same headwinds if the the risk trade were to reverse course. Yet many P/FV estimates on materials companies are in overbought territory, whereas P/FV estimates for energy companies are undervalued to fairly valued. And when it comes to standardized risk, iShares Global Energy is a heck of a lot less volatile than SPDR Metals and Mining.

Disclosure Statement: Gary Gordon, MS, CFP is the president of Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC. The company and/or its clients may hold positions in the ETFs, mutual funds and/or index funds mentioned above. The company does not receive compensation from any of the fund providers covered in this feature. Moreover, the commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities.