ETF Fundamentals Go Under the Microscope

Michael Krause has ESP for ETFs.

Instead of using a crystal ball, though, the president of AltaVista Independent Research looks at the fundamentals of every one of an ETF's constituents.

Thanks to the transparency inherent in ETFs, he knows exactly what's in a fund at all times. "It's possible to calculate potential, sales growth, margin, cash flow, dividends, evaluation metrics...You can evaluate an ETF with stuff you'd use to measure an individual stock. It's a lot more informative about the future."

Sometimes his research and conclusions draw some fire. Last year, he wrote a piece for Seeking Alpha calling then-red hot China a bubble. He got a ton of hate mail.

"It's not about the Chinese people or their economic achievements. Even in a great economy, at some point stocks become expensive," Krause says. "You have to divorce yourself from the emotion."

Sure enough, China had a rough start to the year, down about 12% year-to-date after being up about 53% for 2007. At some points this year, it was down more than 20%.

Krause takes the forward-looking approach that's summarized in the line seen at the bottom of every prospectus: Past performance is not an indicator of future results. "Investing is about the future. It's always about the future."

He isn't doing his research so he can tell people which investments to choose. When he compares two similar-sounding funds and finds differences between the two, "That doesn't make one better than the other. They might be appropriate for two different people and no one had bothered to analyze the difference."

Because his analysis dives right into the fundamentals of the companies held in an ETF, Krause stays away from the arguments about which index weighting is superior. People get into esoteric arguments, but "you can avoid all those and just simply measure what's in the portfolio."

Krause just wants to provide people with a product they can't get anywhere else, and give ETF providers the tools to give investors objective research that will help them make their decisions. Technical analysis is easily available, but research that analyzes the fundamentals doesn't come easy.

So, what predictions does Krause have for the current markets?

He dismisses the theory of decoupling. "The notion that the U.S. is going to be alone is hogwash."

His research is also pointing to financials as a bargain, "But some people rightly don't want to catch a falling knife."