As the third quarter comes to a close, Wall Street is looking at yet another great quarter for the U.S. stock markets. And so, it stands to reason that many equity ETFs finished Q3 well in the black.
But the key word there is “many.”
While we saw a number of ETFs flourish in the third quarter, a few didn’t just underperform the broader market — they fell, and fell hard.
Here’s a look at both sides of the coin — three funds that stood out in a positive way in Q3, as well as three with a couple holes:
Leader #3: Vanguard Total Stock Market ETF
Q3 Total Return: +7%
It wasn’t the best quarterly performance among all ETFs by any means, but the Vanguard Total Stock Market ETF (VTI) impressed by strongly outdoing its broad-based brethren, the SPDR S&P 500 ETF (SPY), by about 120 basis points.
Morningstar fund analyst Michael Rawson does a good job highlighting the many reasons VTI makes such a good investment, but for me, there are two key reasons investors should take note of this fund. First, Vanguard Total Stock Market is really darn cheap at an expense ratio of 0.05%, or just five bucks for every $10,000 invested. Second, VTI covers the spectrum of U.S.-listed stocks, from microcap all the way to mega-cap.
It also doesn’t hurt that it’s up 22% year-to-date.
In my opinion, Vanguard Total Stock Market ETF is a much better fund to own than the SPY. Year-to-date, its numbers justify that thought.
Laggard #3: PowerShares KBW High Dividend Yield Financial Portfolio
Q3 Total Return: +4%
Financial stocks are enjoying a broad-based recovery in 2013 — at least, that’s the impression you get from the performance of the six industries that comprise the financials sector of the S&P 500. According to Yardeni Research, all of them were up 20% or more through Sept. 26. It stands to reason that ETFs in this sector would be doing well, too.
And they are — with the exception of the PowerShares KBW High Dividend Yield Financial Portfolio (KBWD), which is up just 15% this year, trailing the entire sector by almost 800 basis points.
Aren’t dividends supposed to be an investor’s best friend? What’s going on?
Part of the problem has to do with the fund’s portfolio. Approximately 88% (60% small-cap and 28% mid-cap) of its holdings are invested in value stocks, with the rest in growth. So far in 2013, small-cap growth ETFs are handily beating small-cap value ones — this Seeking Alpha data point says that outperformance is approximately 800 basis points. Midcaps aren’t nearly as divided, with results between value and growth fairly similar year-to-date.
KBWD isn’t a bad fund, nor is its Q3 performance bad. It’s simply that growth stocks — especially small-caps — are simply more popular with investors. That might change occasionally, but historically, investors have usually been more inclined to own growth rather than value.
That permanently works against the fund despite its attractive 7.5% yield.
Leader #2: iShares MSCI EAFE Small-Cap ETF
Q3 Total Return: +16%
The iShares MSCI EAFE Small-Cap ETF (SCZ), at a relatively cheap 0.4% in expenses, stands out because it emphasizes the dual reality that the Japanese market is on fire (up about 40% year-to-date) and that European markets are definitely on the rebound.
SCZ itself seeks to replicate the performance of the MSCI EAFE Small-Cap Index, a group of 1,323 small-cap stocks in 22 developed markets (excluding U.S. and Canada) including Japan, the U.K., Australia, Germany, France and 17 others. Japanese and U.K. stocks account for just less than half the portfolio’s weighting. If you believe in these two markets, this is an excellent fund to own.
Its turnover in the past year was 16%, which is quite low, meaning its portfolio turns completely about once every six years. Approximately 70% of the $2.8 billion in total net assets are invested in just four sectors: industrials, financials, consumer discretionary and materials.
In terms of performance, SCZ is up roughly 21% year-to-date, with the lion’s share of that gained in the past quarter. The fund also has bested the MSCI EAFE Index during the past five years, by 438 basis points on an annualized basis. According to Wall Street Journal’s ETF screener, SCZ was the third-best equity ETF (expense ratio 0.5% or under and at least five years old) during the past 13 weeks.
I’m usually not one to emphasize performance, but that’s impressive.
Laggard #2: Market Vectors Gold Miners ETF
Q3 Total Return: -2%
I”ll be brief with this pan.
The Market Vectors Gold Miners ETF (GDX) is one of the 100 worst-performing ETFs in 2013. But what’s really striking is that it’s also one of the few ETFs on that list that doesn’t have some sort of leverage or shorting component to it.
A huge fund with $7.4 billion in total net assets, the GDX is down 46% year-to-date through Sept. 27. While it only lost 2% for the third quarter, it’s on a downswing that has seen GDX lose more than 10% in the past month alone.
Warren Buffett is right to question the value of gold. It serves no tangible purpose except as an object of fear and yet investors keep piling in. But if you’re a gold bug, buy the bullion itself — owning an ETF riddled with miners seems like overkill in the worst way.
Leader #1: Global X Social Media Index ETF
Q3 Total Return: +33%
It seems investors are finally taking social media seriously.
Facebook (FB) is trading above its IPO price, LinkedIn (LNKD) and Groupon (GRPN) are on tears, and even Twitter is getting all sorts of pre-IPO buzz, suggesting the company is worth as much as $20 billion. The major beneficiary of all this investor love for social media is the Global X Social Media Index ETF (SOCL), which is coming up on its second anniversary.
The fund’s 27 holdings have hit it out of the park in Q3, bolstering SOCL by 33% during the past three months and gaining more than 50% year-to-date. While its underlying holdings are doing well, though, investors clearly are also poring into the fund to take advantage of the Twitter hype.
But is it hype? Internet penetration in India, China and Brazil is 8%, 36% and 37% respectively. This compares to 78% in the U.S. Considering 65% of adult internet users make use of one or more social networking sites, the growth curve for these sites in BRIC countries alone is enough to push SOCL higher.
There were better performances in Q3, but none that were more important. With just $54 million in total net assets, this quarter’s big move in SOCL might be the tonic to grow that number. Congrats to those that bought in at the end of 2012. You’ve done well for yourselves.
Laggard #1: Factor Shares 2X: TBond Bull/S&P 500 Bear
Q3 Total Return: -20%
Just seeing the word “leverage” when discussing ETFs gives me the willies.
The Factor Shares 2X: TBond Bull/S&P 500 Bear (FSA) is, in the company’s words, “a leveraged spread ETF designed for investors who believe long-dated U.S. Treasuries will increase in value relative to large-cap U.S. equities in one day or less.” Essentially it’s going long on U.S. Treasuries and short on the S&P 500.
How’s that working out so far?
Well, since its inception in February 2011, the FSA is down 56% on an annualized basis through June 30. In the past three months, FSA’s total return is -20%.
It’s hard to believe, but FSA actually has $880,000 in net assets. I’m surprised it’s not less. Not surprisingly, it’s on the ETF Deathwatch for September.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.