Wall Street is constantly obsessed with finding the best stocks. But if you’re in it for the long haul — and heck, even if you’re a trader — you might want to focus on the best ETFs, too.
If you’re a student of market dynamics (and aren’t we all), then you’re probably realized that stocks are increasingly moving in lockstep. Company-level analysis is becoming less useful. Specifics on individual businesses — so-called “fundamental” research — are becoming less and less profitable as the statistical correlation between stocks rises.
That is, stocks are increasingly dependent on the overall market trends instead of moving to their own drumbeat. And in turn, the overall market is becoming increasingly dependent on the bigger, macroeconomic picture. It’s all about central bank policy and stimulus measures and currency movements.
Consider research from Cornerstone Macro which shows that macroeconomic forces currently explain 84% of stock market returns; up from the 77% long-term average. That leaves only 16% for companies to shine on their own. The art of individual stock selection is becoming increasingly fruitless.
As a result, traders are wise to increasingly focus on sector- and asset-level bets that will maximize exposure to big trends moving the market. You can do that by targeting one or more of these five best ETFs.
Best ETFs – SPDR S&P 500 ETF Trust (SPY)
For basic exposure to equities as an asset class, the SPDR S&P 500 ETF Trust (SPY) — the granddaddy of exchange-traded funds — fits the bill.
The SPY ETF is extremely liquid, with around 100 million shares trading on a daily basis. Moreover, it’s diversified, holding every single component of the S&P 500 Index to the same degree as the index. Thus, top holdings include the biggest of blue chips, such as Apple (AAPL) and Exxon Mobil (XOM).
And the SPY has low turnover costs, low fee costs and is more tax-efficient for investors than mutual funds since tax events only occur based on individual buy and sell decisions.
At a net management fee of 0.09%, or just $9 for every $10,000 invested, the SPY ETF gives you cheap, easy exposure to the stock market benchmark that most active investment managers (and most hedge funds, for that matter) struggle to stay ahead of.
Best ETFs – iShares 20+ Year Treasury Bond ETF (TLT)
The second piece of any basic investment portfolio is a fixed-income allocation to a risk-free issue like U.S. Treasury bonds.
The allocation between equities and risk-free bonds depends on the situation of each individual investor, factoring in things like age, income, assets, expenses and risk tolerance. As a rule of thumb, subtract your age from 100. The result is your equity allocation percentage. (You’re 40? Then you should be 60% in stocks and 40% in bonds. You’re 60? Then 40% in stocks and 60% in bonds.)
The iShares 20+ Year Treasury Bond ETF (TLT) is one of the best ETFs to fill your portfolio with risk-free bonds, with around 10 million shares trading on an average day. The expense ratio is low too, at just 0.15%.
And don’t forge the income — the TLT currently offers a yield of nearly 3% on its portfolio of 23 long-term Treasury bond holdings.
Best ETFs – PowerShares DB Commodity Index Tracking Fund (DBC)
If you want to increase the complexity (and thus the risk-return profile) of your portfolio, the next step would be to add some alternative asset exposure via a commodity ETF. One of the best ETFs to do this on a broad scale is the PowerShares DB Commodity Index Tracking Fund (DBC).
Trading a couple of million shares a day, the DBC gives quick, easy and relatively cheap exposure to a basket of 14 of the most commonly traded physical commodities. Energy carries the heaviest allocation followed by gold, soybeans, sugar and wheat.
The expense ratio is higher than the SPY and TLT at 0.85%, though that’s not outrageously expensive for commodity exposure. Still, the DBC should only be used sparingly to give a modicum of inflation protection.
Best ETFs – iShares MSCI Emerging Markets ETF (EEM)
After commodities, it’s time to look outside the U.S. for exposure to smaller, foreign economies that are at a different stage of their development.
The iShares MSCI Emerging Markets ETF (EEM) provides diversified equity exposure to companies domiciled in countries like China, South Korea, Taiwan and Brazil. Top holdings, at the company level, include Samsung Electronics (SSNLF), Taiwan Semiconductor Manufacturing (TSM) and China Mobile (CHL).
Liquidity is deep, trading around 50 million shares per day, and the expense ratio is modest, at 0.67%, considering the fund gives quick and easy exposure to more than 800 emerging-market stocks.
Best ETFs – SPDR Gold Trust (ETF) (GLD)
And finally, if you’re worried about the recent surge of stimulus from global central banks along with the accumulation of massive government debt loads in the largest developed economies, then you’re going to be interested in keeping a percentage of your assets in precious metals for protection against possible inflation and the abuse of fiat currencies.
The obvious candidate to fit this role is the SPDR Gold Trust (ETF) (GLD), which provides fractional ownership to a horde of physical gold bullion.
While not “on the metal” like physical coins or bars, the benefit of GLD outside a doomsday scenario is that transactions costs are lower, the holdings are more liquid and you don’t need to worry about physical storage and security of your gold assets.
And the expense ratio for all this is just 0.4%.