Grab Some Small Caps: ETF Alternatives for Hot Stock Picks

by Will Ashworth | October 21, 2013 4:14 pm

A trio of stocks helped fire up the markets this past week, with Google (GOOG[1]) leading the charge by crashing through the $1,000 threshold[2]. As a result, the S&P 500 gained 2.4% on the week and sits up 22.3% year-to-date through Oct. 18.

With the cyclically adjusted price-to-earnings ratio moving higher, it has become harder to find stocks to buy, but InvestorPlace contributors have a few ideas. Here are my ETF alternatives to those quality stock picks:

Small-Cap Stocks

James Brumley gave readers not one but five small-cap stocks[3] that will benefit from the government shutdown coming to an end. Now that the crisis has passed, Brumley sees a bounce in the weeks ahead. Of the five, I personally like Lifeway Foods (LWAY[4]) the best because its kefir drink should continue to make inroads in the dairy business, ultimately leading to its acquisition by a much larger competitor.

Make no mistake: Each of the five stocks picked by Brumley have their warts. That’s why I’d be inclined to invest in the PowerShares S&P SmallCap Consumer Discretionary Portfolio (PSCD[5]), which invests in 102 consumer discretionary stocks from the S&P SmallCap 600, including two of Brumley’s picks: American Public Education (APEI[6]) and Ryland Group (RYL[7]).

At 0.29% in expenses, you’re buying good diversification; an important trait when investing in smaller stocks.

Johnson & Johnson/Actavis

The U.S. dollar’s lost some of its zip in recent weeks, and that has got Louis Navellier looking for stocks with good currency diversification[8]. Drug maker Actavis (ACT[9]) operates in 60 countries, selling generic versions of all kinds of drugs. Navellier specifically targets its work in biosimilars, which are generic versions of biologic drugs. Actavis recently acquired Warner Chilcott for $8.5 billion and moved its head office overseas to Dublin, Ireland. It expects this will add 30% to its EPS in 2014 due to lower taxes. That’s a hard number to ignore.

Meanwhile, Tom Taulli weighed the pros and cons of owning Johnson & Johnson (JNJ[10]) last week. He came to the consensus that JNJ was worth owning despite its frothy valuation. When push comes to shove, management’s long-term vision for the company has always been in the best interest of shareholders, who have been handsomely rewarded over the years.

For those like myself who barely understand the difference between Benedryl and Benazepril, something a little more comprehensive definitely makes sense. Therefore, I see the Guggenheim S&P 500 Equal Weight Health Care ETF (RYH[11]) as a very smart move because it gives you Actavis at a weighting of 1.91%, which is a respectable amount, and JNJ at 1.82%, while also providing a similar investment in 54 other health care companies including Mylan (MYL[12]), one of Actavis’ biggest competitors.

Investing for the average person should be as simple as possible. RYH plays no favorites and covers the bases when it comes to health care.

Itau Unibanco

Hilary Kramer has worked in and invested in Latin America. So when she recommends[13] Brazilian stocks — or any of the emerging markets in South America for that matter — it pays to listen. Of the four stocks Kramer recommends, I’d be most inclined to go with Itau Unibanco (ITUB[14]), a stock I also recommended[15] in late July. The Brazilian bank is the 23rd largest by market cap in the world and number 1 in Brazil. With the real hitting bottom in late summer forcing Brazil’s central bank to intervene, now’s a good time to bet on the company.

In Kramer’s article she mentions the iShares MSCI Brazil Capped Index Fund (EWZ[16]), 80 holdings invested in Brazilian large- and mid-cap stocks. ITUB is the number one holding at 7.62%. That’s definitely one way to go for sure. A less Brazilian-centric move would be to own the iShares Latin America 40 ETF (ILF[17]), a collection of 40 of the largest blue-chip companies in Latin America with investments in Brazil, Chile, Colombia, Mexico and Peru. Providing greater geographic diversification than EWZ, it also has ITUB at a weighting of 8.27%, slightly higher than EWZ. In my opinion, it’s a smarter way to play Latin America.

Apollo Investment Corp.

Semi-retired hedge fund manager Stanley Druckenmiller proposes that capital gains and dividend taxes be raised to equal those of regular income[18] while completely eliminating corporate taxes. It’s all part of his call for income redistribution in this country. One of the beneficiaries of such a plan would be business development companies[19], which distribute most of their payouts in the form of ordinary income and capital gains. Tim Melvin likes Apollo Global Management’s (APO[20]) BDC vehicle, Apollo Investment Corp (AINV[21]), which has $3 billion invested in a total of 94 different companies and currently yields 9.55%.

Almost 10% yield — that’s eye-popping! However, AINV is a little too rich for my blood. Instead, I’d go for the Market Vectors BDC Income ETF (BIZD[22]), which invests in 27 of the largest public BDCs available, including AINV at a weighting of 5.73%. The ETF has a distribution yield (what you would have earned in the past 12 months) of 6.42% and a 30-day SEC yield of 7.51%. Because many of these BDCs provide floating-rate loans, as interest rates rise, the income distributed to shareholders will also rise. As long as rates don’t go too high — affecting the viability of some of these businesses — shareholders should do well during the next two to three years.

As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.

  1. GOOG:
  2. crashing through the $1,000 threshold:
  3. five small-cap stocks:
  4. LWAY:
  5. PSCD:
  6. APEI:
  7. RYL:
  8. currency diversification:
  9. ACT:
  10. JNJ:
  11. RYH:
  12. MYL:
  13. recommends:
  14. ITUB:
  15. recommended:
  16. EWZ:
  17. ILF:
  18. capital gains and dividend taxes be raised to equal those of regular income:
  19. business development companies:
  20. APO:
  21. AINV:
  22. BIZD:

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