Boasting competitive cost structures, enhanced tax efficiencies, and improved liquidity features, ETFs have quickly become one of the most popular tools for all types of investors. But despite the rapid rise of the industry over the last five years, there are still countless investors, including many financial advisors, who are completely unaware of exchange-traded funds. Even among those who are relatively well educated on the basics of ETFs, confusion on the nuances of these products can run rampant.

While the benefits and functions of ETFs are relatively simple to grasp, there are some complexities that have created confusion about these products. Below are a look at ten of the most common myths about ETF investing, along with some simple (and not-so-simple) truths.

When domestic and international equity markets tumbled in the first three months of this year, bargain hunters were overwhelmed with possibilities. As price-to-earnings ratios plunged into the single digits, those who follow the Buffett mantra “be fearful when others are greedy and greedy when others are fearful” were presented with one of the best buying opportunities in recent memory. But since March, equity markets have staged impressive recoveries, making good values hard to come by.

In fact, many well-respected investors with sound track records believe U.S. markets have become significantly overvalued, with only a matter of time before a downward correction erases some of the gains posted over the last six months. Last month Jeremy Grantham estimated that the stock market is 25% overvalued, making two dismal predictions for the first half of 2010. “First, the disappointing economic and financial data that will begin to show the intractably long-term nature of some of our problems, particularly pressure on profit margins as the quick fix of short-term labor cuts fades away,” wrote Grantham. “Second, the slow gravitational pull of value as US stocks reach +30-35% overpricing in the face of an extended difficult environment.”

After decades of flying high and shrugging off crises around the world, U.S. equity markets have fallen on some tough times. The epicenter of the mortgage crisis that evolved into a global recession has scared away many investors away from the U.S. markets, afraid that the worst is yet to come and that the “glory days” of America have passed.

Investor reluctance to jump back into the U.S. markets is perhaps best evidenced by the increase in popularity of “ex-U.S” ETFs, funds that offer exposure to a well-diversified basket of global securities but avoid any investments in the United States.

The general consensus on the fate of the U.S. dollar is that it will weaken over time. And some even think the demise will be dramatic. In fact, you'd be hard-pressed to find folks who believe the U.S. currency has a shot at strengthening in the years ahead.

There may be less agreement about the U.S. economy. Some argue that we were the first to enter the darkness, but that we'll be the first to see the light. Others believe that we'll be lucky to find ourselves muddling through years of stagnation. Nevertheless, there's few that believe that our economy will demonstrate enormous prosperity, even as we recover.

ETF Investing Ideas for the Industrial Plunge

Industrial output has broad implications for the economy and ETFs, so it isn’t good that it plunged by the largest amount in three years.

By Jim Wiandt

It seems like such nitpicking, but I guarantee you a bunch of Diehards will read Dan Serra's piece on the Vanguard Total International fund with interest.

By Heather Bell

[Correction: This article accidentally overlooked the existence of the Vanguard FTSE All-World ex-U.S. ETF (AMEX: VEU)]

It's taken long enough, but finally Barclays and Vanguard are offering genuinely global ETFs: the iShares MSCI ACWI fund (CWI), and the Total World Stock fund, respectively. (The latter's launching next month.) This is great: Rather than having to laboriously construct a global stock portfolio, you can just buy one ETF and be done. They're clean, they're simple, and, according to Rob Wherry, they're controversial:

The problem is these ETFs follow static indexes that, more or less, will always own the same countries, sectors and stocks. That means investors can't pick and choose the spots they want to avoid or own.

There were quite a few markets around the world that did not have a great 2007. Ireland was down 25%. That is a significant haircut and I have to think the vast majority of the selling is done. If you believe that stock markets move ahead of the economy, there could be more economic issues in Ireland that surface to be sure, but I would be surprised if there is a lot more downside for stocks there. For perspective, though, I started with a 3% allocation to Ireland that is now smaller--point being I have moderate exposure that did not crucify me.

Sweden is an interesting one. The market there was down about 8%, but most of that can be attributed to a 40% (in dollar terms) decline in Ericsson (ERIC). I have one Swedish stock that, although way off its high, was up about 20% this year (that includes a small tailwind from SEK strength).

This must be a first: I agree with almost everything Jim Wiandt says in his recent blog.

The China issue is a conundrum. Everyone buying a market-cap-weighted index is dramatically underweight in China. China’s float-adjusted share of global market capitalization is about 1%, and yet, it’s the third-largest economy in the world. Investors who buy, say, the SPDR MSCI ACWI ex-US ETF (CWI) … one of my favorite ETFs … get a bigger stake in Italy and the Netherlands than they do in China. Now, I eat more pasta than the next guy, but if I was designing a portfolio, it’d definitely have more China in it than Italy…

Below we highlight non country specific international ETFs. These represent regions around the world and include emerging markets as well.

In the table we provide the 5-day percent change of the ETF, the percent the ETF is trading from its 50-day moving average, and how overbought or oversold the ETF might be. (An ETF is overbought or oversold if it is trading more than 1 standard deviation above its 50-day moving average.)

For all of the attention that BGI, Vanguard, PowerShares and even ProShares, Rydex and Claymore have been getting lately, SSgA— with still the largest ETF and second-largest total ETF assets BY FAR—has quietly built a stable of world-class products.

All-World, and All-World Ex-US
iShares MSCI ACWI (All Country World Index) Index Fund ETF (ACWI)
SPDR MSCI ACWI ex-US ETF (CWI)
SPDR S&P International Small Cap ETF (GWX)
The SPDR S&P World ex-US ETF (GWL)
Vanguard All-World Ex-US ETF (VEU)
Schwab International Equity ETF (SCHF)
WisdomTree International Hedged Equity Fund (HEDJ)

Vanguard already allows investors cheap international exposure to Europe and the Far East (Vanguard European ETF (VGK) and Vanguard Pacific ETF (VPL) respectively) both at 18bps but this new ETF will allow international exposure in one position. With the ETF world having focused in recent years on the narrowest of regions and sectors, we’re now seeing quite a few product launches for broader international exposures.

For example, SSGA now has three ETFs allowing for very broad international exposure:

Listings

Seeing The World
One-stop shopping. Or, at least, two-stop shopping. That’s the idea behind the newly launch global (ex-U.S.) exchange-traded fund [ETF] from State Street Global Advisors [SSgA].

• Hedge funds and other who use these instruments
• Mutual fund companies and other investment management dinosaurs who realize that they might need to acquire ETFs and/or hedge funds to adapt to the changing environment
• Index providers who are caught somewhere between trying to figure out the new benchmarks that institutions will want to have their portfolios (or parts of) linked to and determining where the ETF product development people are finding potential demand

There have been recent developments where new forms of ETFs have begun to expand globally. For example, what ProShares, and soon from Rydex, have done with levered and inverse ETFs, we have seen similar launches from BetaPro ETFs in Canada and Société Générale Asset Management in France. There could be more of these types of ETFs in other countries and if so, please add a comment further to this entry (oh, the beauty of blogging!).

In case you weren't paying attention, January 17th, marked the birth of "CWI."