Obviously, I love ETFs. This love affair started when I first became an active trader and carried over in a big way to my days as hedge fund trader. When I'm not trading or writing, chances are I'm researching and analyzing ETFs.Over the course of an average day, I spend at least five or six hours analyzing possible candidates for addition (or subtraction) to (or from) the ETF Profit Report portfolio. In other words, I'm an ETF geek and have no problems admitting that.
At the end of the day, I love ETFs and believe the advantages with these instruments far outweigh the disadvantages, but that being said, I'm not going to sit here and tell you that ETFs are perfect. They're not. In a universe of almost 1,000 exchange traded products (over 800 ETFs and over 100 ETNs) there are bound to be some duds and products to avoid.
There are a couple of things I want to tell you about ETFs and this may sound like advice for beginners, but even seasoned investors need to hear this. ETFs were NOT created as "one-size-fits-all" products. In fact, that's part of the allure of ETFs: Every investor can find at least one or two ETFs that fit their investment styles, but not every ETF is meant for every investor. Trust me, this situation is not a cause for alarm, especially if you're armed with the right information and I'm going to give you that information today.
In one of my first pieces here on Global Profits Alert, I voiced my displeasure about the scores of pundits and talking heads that berate and deride inverse and leveraged ETFs every chance they get. I disagree with the chattering class's view on leveraged and inverse ETFs because I've seen them work in real life with real money and Jim and I will continue to use these ETFs in the ETF Profit Report Portfolio.
The point the pundits miss is that there are plain vanilla ETFs on the market that are plenty hazardous to your portfolio's health, but they don't talk about these ETFs. Well, I'm going to do what the so-called experts should have done a long time and tell you about a fair amount of ETFs that you should avoid at all costs. Sometimes knowing what to avoid is as profitable as knowing to embrace.
ETFs That Replicate Hedge Fund Strategies
Yeah, I know what you're thinking. Why would a hedge fund guy tell me to stay from hedge fund ETFs? The answer is actually quite simple. Hedge funds aren't for everyone, take it from me. Many hedge do a lot more than just trade stocks. They get involved in high risk/high reward trading strategies that typically involve investments that are so confusing, you'd need multiple degrees from Harvard to figure them out.
That's only a slight over exaggeration, but trust me when I tell you that you don't need a hedge fund ETF in your portfolio. Most of these ETFs are afflicted by weak volume, indicating the ideas behind the ETFs have yet to really be embraced by investors. Remember that when you trade or invest in any number of standard ETFs, you're already playing along side the pros, so there is no need to get involved with hedge fund ETFs.
For the most part, the evolution of the ETF industry has made some useful and worthwhile investment concepts available to retail investors. The other side of the coin is that ETF issuers have introduced some concepts that are just flat out odd and the more odd the ETF is, the more you should run away from it. I'll tell you about a few of the weird ideas that issuers thought would make for good ETFs.
Covered call ETFs: Bad idea because they only write covered calls on indexes and you could make more money writing the calls yourself. An ETF that tracks insider buying. This ETF tracks only 100 companies out of the thousands that are listed on U.S. exchanges so how can it deliver the intended performance of companies with favorable insider buying trends? In addition, there are no guarantees the 100 stocks in this ETF will be experiencing strong insider buying when you buy the ETF. An ETF that tracks spin-offs. Take a pass and just buy shares in the spun-off company. These ideas are just too obscure to command your investment dollar.
Commodities ETFs Not Backed By Physical Commodities
You've probably heard about the U.S. Oil Fund (NYSE: USO) and the U.S. Natural Gas Fund (NYSE: UNG). These ETFs do NOT hold physical oil and natural gas. Rather, they invest in futures contracts and when those contracts expire, the ETFs have to purchase new contracts, a process known as "rolling forward." This process runs up expenses and makes it very possible for you to lose money on these ETFs even while oil and gas prices are rising and that's a bitter pill to swallow.
The bottom line is most ETFs are easy to understand and if you can't understand what your ETF is supposed to be doing, get rid of it. As someone that spends a lot of time writing and talking about ETFs, I have a policy. That policy is if I can't write about why you should buy an ETF in less than 200 words or explain to you in a live conversation in less than three minutes why you should own that ETF, I don't recommend it. Sounds simple, but it's effective.
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Global Profits Alert (GPA) is published by Trippon Financial Research, Inc. a financial media organization with offices in the United States, Hong Kong and Mainland China. GPA is written by Jim Trippon in conjunction with George Wolff, Sunny Wang, Todd Shriber, Kelley Damiani and J. Daryl Thompson.
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Disclosure: No Positions