ETFs: Gateway to Global Investing

07/14/2008 12:00 am EST

Focus: GLOBAL

Tom Lydon

Editor and Publisher, ETF Trends

Exchange traded funds (ETFs) have rocketed to the forefront of the investment world in the last couple of years. We asked Tom Lydon, editor of ETF Trends and co-author of iMoney: Profitable ETF Strategies for Every Investor, to share some insight and tips for going global with ETFs

Q: Tom, there are now more than 700 ETFs, most of which were issued in the past couple of years. What has made ETFs so attractive?

A: Exchange traded funds, first introduced in 1993, have been one of the fastest-growing investment vehicles in the world, thanks to significant advantages over traditional mutual funds, including transparency, low cost, intraday trading, ease of diversification, and tax benefits.

Q: Investors are often skittish to invest globally, due to regulatory, economic, currency, and market risks. How can ETFs help them?

A: Many investors don’t realize that two-thirds of the world’s market capitalization is outside the US. Global investing can be a rewarding experience for the willing, but information about non-US companies can be a challenge to come by. ETFs can make it much easier since they allow professional management and diversification among a group of companies.

Additionally, by using ETFs, you don’t have to pick just one country. With ETFs, investors can choose a basket of countries that represent a region that is performing well overall.

Q: Until recently, global investing seemed the place to be, but many global markets like Japan, China, India, and others have experienced huge sell-offs and big investor redemptions. What steps would you recommend to reduce these risks, and, very importantly, to monitor continuing risks, so that investors know when to get out of a particular market?

A: The most important points to keep in mind are these:

Not all countries are created equal. Some have more risk than others, and for different reasons. Russia is heavily dependent on energy. Israel’s political situation is volatile. Before diving into a particular country, investors should do their research.

Smaller countries can equal more volatility. Some countries have smaller stock markets, so that their ETFs may be overweight in the largest of the country’s companies. A bad day for one of those companies could cause the ETF to take a real hit.

Have your sell strategy. Single-country ETFs can have big days in either direction, so in accordance with our discipline, it’s important to be prepared to sell if a fund drops below its 200-day moving average or 8% off its high.

Q: Recently several ETFs have closed their doors. What happens to investors’ money, and how they can avoid investing in ETFs that may not be as long term as they wish?

A: Once an ETF closing is announced, it trades normally for about three to four weeks, then the provider has a period of time in which they sell the underlying securities. The proceeds (from when they were sold) are then distributed to the owner of record. To ensure that an ETF will last, investors should stick to those funds with a large amount of assets and heavy trading volume.

Q: Right now, many investors are afraid of taking the plunge—in any investment. Which areas would you avoid?

A: Across the broad spectrum of ETFs, there are not many that we would recommend right now, as they sit below their 200-day moving average. In particular, financial and housing-related ETFs are trading 16% to 36% below it; European ETFs are about 12%, and Asian ETFs are 6% to15% [below the average].

Even if there are “bargains” to be had, we find that in the long run, investors are more successful when they aren’t chasing trends, and instead buying and selling when definite milestones are reached. However, when the markets turn around, the areas that have been beaten down the most will likely gain the most attention.

Thank you.

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