ETF Portfolio Review: Naismith Likes Commodities, Emerging Markets

By Murray Coleman

While the market was sinking in February, Ian Naismith managed to turn a slight profit.

The portfolio manager at Sarasota Capital Strategies in Osprey, Fla., says the firm produced almost a 1% gain for his high net-worth and institutional clients during the month. By contrast, the broad stock market lost around 3.5% during that timeframe.

"We made some major changes in January that set us up for a little smoother ride," said Naismith.

Last December, a number of his portfolios went to cash after hitting pre-determined stop-loss orders on several exchange-traded funds. "We have a few basic tenants, one of which is to keep our losses very shallow," Naismith said.

Early into 2008, Sarasota's managers used some of that cash to take a 7.5% position in ProShares UltraShort S&P 500 ETF (AMEX: SDS). "It essentially gave us an ability to take a double-short position on the broad stock market," Naismith said. "We wound up getting out of it in early March with a nice gain."

He uses technical indicators to tell him when to transact in ETFs. "Most of the technicals were giving us signs that the S&P 500 was oversold, which turned out to be correct," Naismith said. "There was a short rally and the markets continued to get more choppy right after we moved out of SDS."

In January, Naismith also decided to spread his bets a little more. That included investing in the exchange-traded note Elements Rogers International Commodity Index (AMEX: RJI). "Jim Rogers has a very good track record with commodities and that ETF has the broadest representation in that asset class," Naismith added.

It did well for awhile, but is lagging in March. "For us, it'll likely become a core position," Naismith said. "At this point, its diversification across this asset class is unparalleled. There's nothing close among commodity ETFs or ETNs on the market."

Commodities are cooling down. Naismith wouldn't be surprised to see gold drop into the low-$800 an ounce price range. "Gold has become a crowded trade," he said. "It's showing signs of being overbought at this point."

But longer-term, "we believe that gold as well as most commodities are in a secular bull market that could last a decade," he added.

So Naismith's viewing any current downturn as a period to buy on any dips in commodity prices.

Among longer-term positions, he's holding iShares Latin America 40 Index (NYSE: ILF). "It's beating the U.S. broad market handily," Naismith said.

At times, ILF has shown more volatility than the S&P 500. "But it has been a pretty straight upward trend in ILF for a good three or four years," Naismith said. "Its chief positions are in Brazil, Mexico and to a lesser degree, Chile. Those are pretty strong markets among developing countries."

He also continues to favor SPDR S&P Emerging Markets (AMEX: GMM). Most of its holdings are in BRICS - Brazil, Russia, India and China. "But another 50% of the fund is spread across 14 or 15 different smaller emerging markets," Naismith said. "It has a very different flavor than other emerging markets ETFs. And it's still highly diversified."

But he's watching closely to see how a slowdown in the U.S. could impact emerging markets. "We're seeing a real transition across developing nations. People are becoming better educated and there's a real thirst to live more successfully than past generations," Naismith said.

That's bringing about a cultural change that might put developing economies on steadier footing if developed markets collapse more in coming months, he added.

"We're still bullish on emerging markets," Naismith said. "It could be very volatile. But we see this as a long-term core holding."

Sarasota Capital currently has about 12-15% of its total assets in emerging stock markets, he estimates.

Naismith hasn't been investing in bonds since late 2005. "The commodities help a lot because they're inversely correlated to the stock markets," he said. "And we're holding about 20% in cash now. That's not a bad place to be in this sort of sideways moving market."

If the S&P 500 rallies past 1380, Naismith plans to start putting more cash to work. "But it also has to hold past 1380 for three- to-five business days," he added. "If it does that and shows the broader market is forming a solid base, then we'll start getting back into the domestic markets."

In the U.S., Sarasota does own PowerShares Dynamic Consumer Staples (AMEX: PSL). Another largely domestic holding is PowerShares WilderHill Clean Energy Index (AMEX: PBW). "These are ones we've held through this rough patch," Naismith said.

PBW is a call he's making on the long-term prospects for alternative energy. Naismith is also planning to keep a small position in PowerShares Water Resources (AMEX: PHO). Each position represents about 5% of the firm's total assets.

"Whenever these things get beat up, we tend to gather more shares. It's inevitable that water and clean energy is going to face rising demand going forward," Naismith said. "We've got a crisis taking place in clean water. And moving from fossil fuels to cleaner fuels is inevitable."

In addition, Sarasota has owned PowerShares DB G10 Currency Harvest (AMEX: DBV) since its late 2006 inception. The fund rotates between G-10 country currencies. The three currencies with the highest yields are given 200% exposure and the three lowest yielding are shorted by the fund.

"In back-testing, this particular strategy has only had two negative years in the past 20 years," Naismith said. "Over the last 15 years, its returns are about even with the S&P 500 but with significantly less volatility. So we like it going forward in a jittery economy."