You love to trade, and you've set a goal to make a million dollars. You also wonder whether exchange traded funds can help you achieve that ambitious goal. Can ETFs in fact generate wealth in the same way that the best CAN SLIM-quality stocks can?
In some ways, the question is difficult to answer.
ETFs simply don't have as long a trading history as stocks. And even if some funds are concentrated in their holdings, one might think they cannot make as large a move as a highflying tech or the future Home Depot ( HD ).
Yet some ETFs are built with leverage, so they are designed to move at a similar tempo to high-growth equities. And when the market is favoring certain industry sectors, the right set of ETFs can be employed to take advantage of short, medium and long-term moves.
A look at some of the hot-performing ETFs so far this year should convince you that it's worth the time and effort to focus your research on ETFs as serious moneymaking vehicles.
[ibdchart symbol="NUGT" type="weekly" size="threequarter" position="leftchart"] Leveraged gold ETFs made huge strides this year. Take the Direxion Gold Miners 3X ( NUGT ), which seeks to provide three times the return of the NYSE ARCA Gold Miners Index. On Feb. 11, the highly liquid ETF cleared an aggressive entry point at 10.62 in heavy volume.
After a brief pullback, NUGT rose sharply over the next month, rising to as high as 14.93 on March 17 before cooling off. That's an impressive 41% advance, fueled in part by the fund's leverage. The same ETF moved sideways for a few weeks, then busted out again. On April 11, NUGT soared 18% in big turnover, clearing a new cup-base entry point at 15.03.
Just 15 sessions later, NUGT rose to as high as 24.79, up 65% from the new entry.
How could an ETF trader make the most of these two short-term moves?
Several skills need to be mastered. First, you need to become comfortable analyzing charts and looking for clues of big demand. In the second half of January, NUGT provided some clues. One, volume on the up days in price expanded heavily, and down days featured quieter trade.
Second, check the strength of the sector. IBD's stock research tables can help, since they rank 33 separate industry sectors based on multiple periods of relative performance. The top five sectors are generally going to be leading the market.
In IBD's Feb. 1 edition this year, the Mining sector lagged its peers, ranked 31st out of 33. Stocks in the sector were on composite up just 2% for the year. Things changed quickly; on March 1, Mining gushed to the No. 1 spot as the big money sought to put more money into gold and silver producers.
Proper position sizing is key. Let's say you have half a million dollars and want to turn it into a million. You cannot afford to be too concentrated in one ETF, but you also want to have a sizable position so that you can cash in a big gain when you are right.
So consider this strategy: In each ETF you trade, build a $62,500 position, which would represent one-eighth of your portfolio. A 20% gain on the position would score a profit of $12,500, boosting your portfolio account by 2.5 percentage points. Accumulate 40 such winning trades over time, and you've netted a half million in profits, minus your trading losses and commissions.
When it comes to buying the ETFs that represent traditional growth sectors such as retail, medicine or technology, you likely will do better when IBD's current outlook points to a confirmed uptrend. Here, following the IBD ETF Strategy will be immensely helpful. Most stocks -- and thus ETFs -- will follow the general direction of the market. IBD Leaderboard features daily commentary on this strategy as well as an annotated chart of the Nasdaq composite, showing precise signals on when to go 100% long, cut exposure to 50%, and go completely in cash.
Don't forget that some leveraged ETFs can produce unintended results if you hold them too long. Due to the mathematical nature of these funds, the long-term performance won't necessarily match the index it tracks -- especially those that designed to act inverse to the equity index.
Last but never least, always keep your losses small in every trade. It's human to make mistakes, and even the best traders in the world know they will make lots of errors. But the most successful traders, in ETFs or otherwise, will have an iron discipline in doing their best to let their big winners grow while never letting their losses exceed a set threshold -- say, 7%-8% in a normal uptrend and 3%-4% in sideways or choppy markets.