5 Favorite 'Unloved' ETFs That Have Launched In The Past Year

by: Morningstar

By Robert Goldsborough

Several weeks ago, we laid out our five favorite exchange-traded funds that had launched in the previous year. But what about other ETFs that have launched in the past year with similarly sound strategies and unique exposures, but that--for one reason or another--haven't yet resonated with investors and advisors?

We think it's worthwhile to highlight an additional five "unloved" ETFs that have debuted in the past year--ones that for whatever reason have not yet caught on with investors. Not surprisingly, some of these ETFs also cover areas where much in the way of ETF investor dollars has been directed in recent months--corners such as lower-volatility stocks, dividends (and other forms of high payouts), high-yield debt, and emerging-markets debt.

Like our five favorite ETFs, we believe that these five "unloved" funds also represent strong innovation and the correct use of the ETF vehicle.

As before, a word of caution: By definition, these five ETFs are small, with limited levels of assets and thin volumes. As a result, investors should remember to use limit orders, particularly for large trades or in volatile markets, and should watch bid-ask spreads closely. What's more, these ETFs also do not cover all asset classes or strategies out there. So as always, investors should use these ETFs in conjunction with other arrows in their quiver--whether other ETFs, mutual funds, closed-end funds, or individual stocks--to gain the exposure they are seeking. And in some cases, the funds below are best used as specialty satellite holdings, or in a tactical manner, as part of a diversified portfolio.

Here are our five favorite unloved ETFs that have started trading in the past year:

PowerShares Fundamental Investment Grade Corporate Bond Portfolio (NYSEARCA:PFIG) holds a portfolio of corporate bonds rated investment-grade or higher by both Moody's and Standard & Poor's. The ETF tracks a fundamental index created by Research Affiliates, also known as RAFI. The index's methodology ranks each index component by taking four fundamental corporate accounting variables and then calculating a composite weighting for each security by comparing those variables against those of other issuers. So why should investors consider a fundamental investment-grade corporate-bond ETF? The reason is that the RAFI methodology enables the fund to select the very best, investment-grade corporate bonds, resulting in a very high-quality portfolio. And the RAFI methodology has been shown to be very successful with investors, as evidenced in the high-yield space, where the similarly constructed (but obviously differently positioned) PowerShares Fundamental High Yield Corporate Bond Portfolio (NYSEARCA:PHB), which holds high-yield bonds, has just more than $1 billion in assets. In addition, PFIG has the added benefit of having a very attractive, 0.22% expense ratio. Despite the historic performance success that RAFI methodologies have had, PFIG still has a paltry $20 million in assets.

PowerShares S&P International Developed Low Volatility Portfolio (NYSEARCA:IDLV) is part of a suite of low-volatility ETFs issued by PowerShares. Research has shown that on a risk-adjusted basis, the least-volatile stocks have outperformed both in U.S. equity markets and in most international stock markets as well. IDLV follows the same methodology as PowerShares' wildly popular PowerShares S&P 500 Low Volatility Portfolio (NYSEARCA:SPLV), which is in the same suite of funds as IDLV and carries the same rock-bottom 0.25% expense ratio. However, IDLV, which holds the 200 least volatile stocks in an index of companies from developed-markets countries other than the U.S., has struggled to attract assets, with just $11 million in investment as of this writing. Interestingly, investors' avoidance of this ETF has little to do with recent problems in Europe. Why? The answer is that this ETF makes sizable sector and country bets and currently has a very heavy tilt toward companies based in Australasia. Fully 43% of all assets are invested in Japanese firms, and more than 70% of assets are invested in companies from Australasia.

SPDR BofA Merrill Lynch Crossover Corporate Bond ETF (XOVR) offers a new type of exposure for U.S. ETF investors in the form of "crossover" corporate debt (also known as split-rating bonds), which is located generally at the intersection of the higher end of high-yield debt and the lower end of investment-grade debt. XOVR offers investors the opportunity to take advantage of price pressure that takes place when bonds are being upgraded to investment-grade or downgraded to high-yield. Not surprisingly, given exposure at the high end of the junk-bond world, this ETF offers a higher yield relative to an investment-grade fund, with understandably higher credit risk. The fund tracks a BofA Merrill Lynch index and has a modified adjusted duration of 5.6 years and a 30-day SEC yield of nearly 4%. XOVR charges 0.30%, which falls between the lower-priced investment-grade bond ETFs and the higher-priced high-yield bond funds. This ETF has just $10 million in assets.

iShares MSCI India Index (BATS:INDA) offers broad exposure to India equities. U.S. investors may find Indian stocks to provide good diversification and a low correlation to U.S. equity markets, given that India has a more domestic-oriented economy and exports less relative to other emerging-markets countries such as Brazil and Taiwan. And INDA offers a good proxy for the (admittedly volatile) Indian stock market as a whole, seeking to replicate the performance of an index that covers about 85% of the float-adjusted market capitalization of Indian equity securities. Why buy INDA over other single-country India ETFs? We like iShares' decision to bring this fund to market at a lower price point (0.65% expense ratio versus other Indian ETFs, which charge between 0.79% and 0.91%). Thus far, the lower price tag hasn't caught on yet with investors, with INDA attracting just over $18 million in assets. As a result, volumes remain low.

QuantShares US Market Neutral Value ETF (NYSEARCA:CHEP) has a unique structure that aims to offer investors the double-barreled goal of enjoying the value premium, or the tendency for value stocks to outperform growth stocks across a full market cycle, while somehow avoiding equity-market volatility. The fund does this by holding long positions in about 200 value stocks while shorting about 200 growth stocks. Investors may find this market-neutral strategy an attractive way to diversify a portfolio, because it could be expected to have a very low beta to the equity market and very low volatility. The 0.81% price tag is reasonable given its complicated operating structure. Some caveats: Investors should pay close attention to the fund's frequent turnover--it rebalances and reconstitutes its holdings every month, which means higher trading costs and short-term capital gains from both monthly rebalancings and short positions. Another caveat: Value doesn't always outperform growth, and during such periods, this ETF could suffer. Even so, we think this fund, which is part of QuantShares' family of ETFs that combine factor investing with a market-neutral strategy, is an interesting tool, and it offers this strategy in one trade; for an investor to replicate this fund's general mandate, he would need to long a value ETF and short a growth ETF and then spend considerable amounts on trading commissions to keep up with monthly rebalancings. This ETF has just $7.5 million in assets.

While a popular criticism of the ETF landscape is that there are too many ETFs, these five ETFs prove that fund providers are continuing to come up with some useful ideas for investors--and, that some of these ideas remain relatively undiscovered.

Disclosure: Morningstar licenses its indexes to certain ETF and ETN providers, including BlackRock, Invesco, Merrill Lynch, Northern Trust, and Scottrade for use in exchange-traded funds and notes. These ETFs and ETNs are not sponsored, issued, or sold by Morningstar. Morningstar does not make any representation regarding the advisability of investing in ETFs or ETNs that are based on Morningstar indexes.