For better or worse, the exchange traded fund universe is quickly expanding as asset managers merge more investment strategies into an ETF wrapper. While a number of innovative ideas do pop up, there are also some questionable offerings as well.
When considering a new ETF, only the best funds will do, and for the most part, most ETFs may not pass muster.
“I asked a simple question: Would I put my own hard-earned cash into the fund–if not today, at least possibly some time down the road?” Samuel Lee for Morningstar writes. “Most funds fail this strict test because they’re 1) too expensive, 2) run by a fund company I don’t trust, or 3) just plain nonsensical.”
Nevertheless, there are some new ETFs that fit the bill. For instance, Lee points to iShares’ new line of factor funds: the iShares MSCI USA Quality Factor ETF (NYSEArca: QUAL), iShares MSCI USA Size Factor ETF (NYSEArca: SIZE), iShares MSCI USA Value Factor ETF (NYSEArca: VLUE) and iShares MSCI USA Momentum Factor ETF (NYSEArca: MTUM). The four ETFs also come with a cheap 0.15% expense ratio. [What to Look for in ‘Smart-Beta’ ETFs]
Academics have found four large factors that have attributed to market gains over many decades, including value, momentum, low volatility and quality.
The value category includes cheap assets that are likely to outperform more expensive assets. Momentum investing is based on the tendency of strong performers to continue outperforming assets with weaker performances. Low-volatility assets provide better risk-adjusted returns than high-volatility assets. Lastly, quality stocks include those with high profitability, low leverage and staple earnings.
Lee, though, singles out the Robo-Stox Global Robotics & Automation Index ETF (NasdaqGS: ROBO) as a potentially bad investment idea. He argues that while the technology is interesting, the benefits will come at the expense of investors. Additionally, Lee warns that the Nashville Area ETF (NYSEArca: NASH), which provides targeted exposure to the Nashville area, may close down like the similar Oklahoma and Texas ETF strategies.
The analyst also calls out the ETRACS Monthly Pay 2xLeveraged Closed Fund ETN (NYSEArca: CEFL) and ETRACS Monthly Pay 2xLeveraged Diversified High Income ETN (NYSEArca: DVHL) as odd choices for income portfolios since the two have a leveraged component, which would further increase risk.
Fore information on ETFs, visit our ETFs 101 category.
Max Chen contributed to this article.