Fortify Your Portfolio with These 3 ETFs

09/15/2011 7:00 am EST

Focus: ETFS

Charles Rotblut

Vice President, The American Association of Individual Investors (

With market and economic uncertainty rampant, defensive sectors have been some of the best performers. Charles Rotblut, CFA, editor of the AAII Journal, names three ETFs to give investors a foothold in equities, even amid volatility.

Kate Stalter: We are speaking today with Charles Rotblut. He is the editor of the AAII Journal. He’s also a CFA and he’s the author of the book Better Good Than Lucky. Charles, give us some actionable steps you believe individual investors should take in the current market.

Charles Rotblut: The first thing I’d advise investors to do is take a deep breath and just look past the current volatility.

Europe is uncertain. The US economy is uncertain, but there’s not a lot investors can do about it, so they should be more focused on trying to position their portfolio for the current market, and for looking beyond it.

For right now, just maintain some exposure to the market. Investors who are feeling a little more risk-averse can look at sectors like utilities, health care, and consumer staples, where they will have stocks that are actually less volatile, pay higher dividends.

And a nice thing is: All three of these groups are actually the best performers, year to date. If you’re a little bit more momentum-oriented, this is what’s working right now, when we look on a year-to-date basis.

Kate Stalter: Any particular stocks or ETFs within these defensive sectors that might be worth a look?

Charles Rotblut: In terms of ETFs, I always like looking at the Rydex equal-weighted ETFs, simply because you don’t have one or two large companies dominating an ETF.

You can look at funds such as Rydex S&P 500 Equal Weight Utilities ETF (RYU), the S&P 500 Equal Weight Health Care ETF (RYH), and the S&P 500 Equal Weight Consumer Staples ETF (RHS). These are the utilities, health care, and consumer staples ETFs themselves.

Those are kind of nice, simply because they are equally weighted. In particular, if you look at an ETF for consumer staples, you don’t just have Procter & Gamble (PG) dominating the ETFs. Those are actually some good ETFs.

And then for stocks, you can look at companies like Abbott Labs (ABT), which—although we do have questions about drug expirations—is a big stable company with a nice dividend and a low valuation.

There are some advantages there for an investor who wants exposure, but looking for something that’s perhaps a little bit more conservative right now.

Kate Stalter: And how about some areas to avoid? People have become understandably spooked about Europe, for example, and about the financials. What is your take on areas that investors should stay away from at the moment?

Charles Rotblut: In terms of the financials, when you are looking at the banks, that’s an area to really be careful about. Particularly if you’re looking at a company like Bank of America (BAC), where even the people who are being paid to analyze it are not really sure what’s on Bank of America’s balance sheet. They’re not sure how much exposure they have, because of the Countrywide acquisition.

It’s worth noting that Bruce Berkowitz, who really had one of the best-performing mutual funds over the last ten years in the Fairholme Fund (FAIRX), has a very high concentration to financials, and right now his fund is severely underperforming. Long-term,  he might be very much correct in his bet, but he has access to a much higher level of analysis than the average investor can get, so that’s one sector I’d be very cautious with.

I’d also be cautious with the homebuilders, simply because we don’t know how fast or slow the economy is going to grow, and we still don’t know how long this foreclosure crisis is going to last. So you do have a lot of uncertainty there, even though some evaluations might seem attractive.

Kate Stalter: We’ve been talking about equities here. Any other asset classes, Charles, that you believe investors might want to do some research on?

Charles Rotblut: Well, I think investors need to maintain an allocation towards bonds. Although interest rates are at historical lows and it’s hard to see interest rates—particularly on long-term Treasuries—going down much more, it’s important to realize that over the long-term, bonds do tend to be uncorrelated with stocks. So you do have that advantage there.

For investors who are concerned about interest rates, they can look at corporate bonds. They can use mutual funds to go overseas and get some international exposure.

Even in the current interest-rate environment, I do think bonds have an important part in the portfolio. The key is to either mix short with long-term bonds, or if you’re looking at bond funds, look at funds with maybe an intermediate-term duration of about five years.

That really is a measure of how sensitive they are to interest rates. You might lose some money if interest rates rise, but the losses won’t be as severe as if you’re going off on a long end of the curve.


Kate Stalter: Any particular bond funds that people might want to take a look at?

Charles Rotblut: Any time you’re looking at funds, investors need to just look at relative performance. I personally own Fidelity Strategic Income Fund (FSICX). It’s performed well over the past several years, and this is a fund that holds TIPS, and some junk bonds, but it also invests overseas.

It is actively managed. They did have some change in the management over the past couple years, so it needs to be monitored a little bit closer, but that’s one way of getting exposure.

Investors can also look at some indexed bond funds or indexed ETFs, as well, where they’re not so much dependent on the performance of the manager, but they’re still getting some exposure to a variety of bonds themselves.

Kate Stalter: Obviously, in your role with the American Association of Individual Investors, you come into contact with a lot of retail investors. Tell us what some of the mistakes are that people have been making in this market. What are some strategies to get better results?

Charles Rotblut: Well, one of the things I’ve seen: Some investors are actually pulling out of the market, and they’re waiting for the opportune time to get back in. Even if you’re relying on charts, you still have the emotional component about whether you can actually act when the chart says to act.

I would caution an investor who is now pulling out of the market and just waiting for the volatility to end, to maybe start stepping back into the water. The motions being what they are, it’s very hard when everything looks fearful to step back in the market.

But sometimes your best returns occur right when the market starts rebounding. If you’re relying on charts you might catch it, but if you still are scared about getting into the market—even if you get the signal off the chart—you may not act fast enough.

I would tell an investor who’s really worried about it to just put some into an index fund, or go for some of the more conservative sectors, so at least you actually do have a foot in the water.

I should say, though, I am hearing from AAII members who are using the current volatility to actually look for bargains and pick up bargains. We are seeing some members—even though they might be bullish on a short-term outlook for stocks—they’re going in and they’re looking at valuations of stocks, and they’re actually picking up names right now at prices they consider to be cheap and really good long-term entry points.

Kate Stalter: Are you talking about long-term plays that could be found at bargains right now, and not quick trades?

Charles Rotblut: Exactly. I think if someone’s looking for a quick trade, it’s obviously being focused on the chart, and as I said, having that willingness to put your emotions aside and react to the momentum.

But just understand that right now, when we look at Europe, there’s a lot of rumors and it’s very hard to chart a rumor, so you might want to go in there with a very tight stop limit if you’re trying to trade off the chart.

Realize that this market might go start-and-stop, start-and-stop, and you might have a lot of volatility on there. If you’re not able to jump in and jump out very effectively, and you’re concerned about transaction costs, taking a longer-term viewpoint right now might actually be better. Even if you typically consider yourself to more of a short-term momentum trader.

Kate Stalter: Charles, one last question to follow up on that. When you are talking about taking a longer-term viewpoint, would these be in larger caps, blue chips, something that seems to have longer-term potential?

Charles Rotblut: I think you need to evaluate each company specifically. Overall, when we look at valuations, large-cap stocks are very cheap both relative to trailing earnings and even relative to what analysts are projecting, so that’s where you’ll find the most value.

But that doesn’t mean you should ignore small-cap stocks, either. It really needs to be made on a company-specific basis, and that really comes down to looking at the financials, looking at the valuation, and if you are more of a momentum trader, pay attention to the chart.

There are some attractive stocks out there regardless of market capitalization, but it requires digging on the part of the investor to find those stocks.

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