ETFs For All Market Conditions

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Right now, most investors rely on a small selection of mutual funds in their 401(k) accounts to make money in the stock market. I've seen plenty of the plans, and the offerings are remarkable similar.

Investors can choose from small-cap, mid-cap and large-cap funds. There may be value funds or growth funds. And if you're lucky, you may have some global funds or emerging market funds.

But if you want to invest your retirement money specifically in technology or oil stocks, good luck. These kinds of targeted funds are virtually non-existent in the retirement fund world.

And that's tragic, because broad, value-based mutual funds are actually among the most risky investments you can make.

Think about it. When you put your money in a large-cap mutual fund, you could be exposed to hundreds of companies. Some might be good, but some certainly won't be. Your performance will be dragged down by the fund manager's need to diversify.

Plus, as we've seen, if the stock market takes a tumble, all stocks go down, regardless of their market cap.

Finally, with mutual funds you're totally at the mercy of the fund manager. Sure, that can be a good thing - when you have a manager that's truly on top of his game. But if he makes a mistake, it's you who pays the price.

Every time I think about the "superstar" fund manager, I think of Legg Mason's Bill Miller. Miller was the superstar fund manager in the value investing space. He beat his benchmark an unheard of 15 consecutive years. That streak ended when he became fixated on the value he saw at Fannie Mae and Freddie Mac

In the summer of 2008, Bill Miller "doubled down" on both stocks, convinced they were worth far more than a few dollars a share. He was wrong and his bad bets cost his investors plenty. These investors knew his track record and believed he was the best of the best. That didn't keep Miller from suffering devastating losses. But it could help you avoid a similar trap.

Fortunately, there's a better way - Exchange Traded Funds (ETFs) . An ETF is something of a hybrid between a stock and a mutual fund.

It's like a mutual fund because it consists of several different stocks with a common theme. ETFs tend to be a bit more targeted than mutual funds. You can buy oil ETFs that have only oil stocks in them. You can buy retail ETFs that have retail stocks, and so forth.

This narrow focus gives investors the opportunity to invest according to their macro-economic beliefs, without having to do in-depth analysis on many individual companies.

ETFs are like stocks in that there are rarely fees involved, or they are minimal, there is no management of the funds holdings, and they trade on a stock exchange like the New York Stock Exchange (NYSE).

One of the biggest advantages of ETFs is they allow individual investors to make downside investments without the costs and margin requirements associated with shorting stocks.

There are a variety of short ETFs available on the market today. These ETFs rise in value when the value of their targeted holdings falls. This is accomplished in a variety of ways through short positions and derivatives like put options.

I will back in a few days to share some ETF suggestions that will assist you if your current market bias is bearish, or if you just wish to hedge your current portfolio. Stay tuned!



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Stocks

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