How To Avoid The Worst ETFs

Oct. 22, 2012 11:16 AM ETFTC, PBW, VOOG, AAPL, XOM
David Trainer profile picture
David Trainer

First, avoid any ETFs below a $100 million market cap. Anything smaller puts you at risk of inadequate liquidity, too large a bid/ask spread and tracking error. Even $100 million can be too low. The bigger the market cap the less trading risk. Same rule applies to How To Find the Best ETFs.

There are plenty of free services that allow you to screen out the smaller ETFs and minimize your trading risk.

The focus of this article, however, is on the underlying investment potential of ETFs. This potential is much more difficult to assess because it requires researching the investment potential of the ETF's holdings.

Research on holdings is necessary due diligence because an ETF's performance is only as good as its holdings' performance. No matter how cheap, if it holds bad stocks, the ETF's performance will be bad.


You cannot rely on the ETF label/name to accurately reflect the ETF's holdings. ETFs with the same label often have radically different holdings. See Barron's "The Danger Within".

My ratings on ETFs are based on deep, fundamental analysis of their holdings. I aggregate stock ratings of their holdings to get the ETF's rating.

Figure 1 shows my ranking of the worst ten Energy Sector ETFs. Here are my rankings on all 20 US equity energy sector ETFs.

Not a single Energy Sector ETF gets an Attractive or better rating. PowerShares WilderHill Clean Energy Portfolio (PBW) is my worst-rated Energy ETF (with assets over $100 million). It allocates 45% of its portfolio to stocks that get a Dangerous or worse rating. Only 5% of its holdings get an Attractive or better rating.

Figure 1: Worst 10 Energy Sector ETFs

Sources: New Constructs, LLC and company filings

My ETF rating also takes into account

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David Trainer profile picture
We aim to help investor make more intelligent capital allocation decisions. Our research is driven by proven-superior fundamental data, models and equity/credit ratings.

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