As the calendar switched over into the new year, a slew of new health care rules went into effect. Health care exchange traded funds (ETFs) kicked off the year trading higher, but whether that sticks is another story.
Janet Adamy for The Wall Street Journal reports that new taxes on drug makers, lower prescription-drug costs for seniors and restrictions on tax-free medical spending accounts are among a slate of health-law provisions that kicked in alongside the new year.
The new rules may be felt differently across the health care industry, but one in particular could feel pain sooner rather than later. Pharmaceutical makers will get hit with a $2.5 billion tax, distributed across all drug makers and based on their sales volume for the year. That could cause some pain for ETFs like iShares Dow Jones U.S. Pharmaceutical (NYSEArca: IHE), which was up 11.1% in 2010.
This is all while the law faces a battle in the courts. A federal judge in Virginia ruled that a key provision of President Obama’s health care reform that requires most Americans to purchase health insurance is unconstitutional. Until this bill reaches the Supreme Court and goes any further, the health care sector could be volatile for some time, reports Benjamin Shepard for Investing Daily.
Health care ETFs such as iShares Dow Jones U.S. Healthcare Provider (NYSEArca: IHF), PowerShares Dynamic Pharmaceuticals (NYSEArca: PJP) and First Trust Health Care AlphaDEX (NYSEArca: FXH) are all up in the last year, some by more than others. If you want to own this sector, be aware of the risk for shocks as the legal issues work themselves out.
Disclosure I own none of these etfs
A blog talking about investing in a basket of dividend paying etfs. To generate a long term flow of passive income. Follow me as I grow to learn the world of Dividends and Investing.
Sunday, January 30, 2011
ETF Showdown: Timber Time
In the world of timber ETFs there are two. Yep, just two. Not even an ETN, which is strange considering there are timber futures trading here in the U.S., but we've got to focus on the options we do have access to and these two funds will be the focus of this week's ETF Showdown.
Like gold, coffee or oil, timber is a commodity and like so many other commodities, emerging markets demand is the driving force in the timber market. As ETFTrends recently pointed out, China is gobbling up pallets and packing materials, pulp and paper at rapid pace with no signs of a change in trend anytime soon.
Sounds like a good time to compare and contrast the Guggenheim Timber ETF (NYSE: CUT) and the iShares S&P Global Timber Index Fund (NYSE: WOOD). Kudos to both Guggenheim and iShares for coming up with appropriate tickers. Making distinctions between CUT and WOOD is critical for investors because over the past year, the performance of these ETFs is identical as both are up 30%.
First, we see that CUT trades for less than half the price of WOOD, allowing a trader to accumulate more than double the amount of shares for the same outlay of capital. So there's a point in CUT''s favor. CUT also features the better liquidity with an average daily trading volume for the past three months that is better than quadruple what WOOD features.
On the other hand, WOOD does offer the better expense ratio at 0.48% compared to 0.65% for CUT. Obviously both funds are going to have some of the same holdings, but the allocations are different because WOOD is nearly half allocated to the U.S. while about a quarter of CUT's allocation is devoted to the U.S. Either way, you'll see Rayoneir (NYSE: RYN), Weyerhaeuser (NYSE: WY) and MeadWestvaco (NYSE: MV) among the top 10-holdings for both ETFs. International Paper (NYSE: IP )is found among CUT's top-10, but not WOOD's.
Making a decision between these two funds is hard, but it is clear timber exposure is worth a look now. Over the last 30 years or more, there has been little or no positive correlation between the returns generated from timberland and those from either fixed-income or equity assets, according to Hard Assets Investor.
A long-term hold might want to opt for WOOD because of the lower expense ratio, but an active trader should go for CUT because of the of the superior liquidity. Consider this showdown a draw with a slight edge to CUT.
Like gold, coffee or oil, timber is a commodity and like so many other commodities, emerging markets demand is the driving force in the timber market. As ETFTrends recently pointed out, China is gobbling up pallets and packing materials, pulp and paper at rapid pace with no signs of a change in trend anytime soon.
Sounds like a good time to compare and contrast the Guggenheim Timber ETF (NYSE: CUT) and the iShares S&P Global Timber Index Fund (NYSE: WOOD). Kudos to both Guggenheim and iShares for coming up with appropriate tickers. Making distinctions between CUT and WOOD is critical for investors because over the past year, the performance of these ETFs is identical as both are up 30%.
First, we see that CUT trades for less than half the price of WOOD, allowing a trader to accumulate more than double the amount of shares for the same outlay of capital. So there's a point in CUT''s favor. CUT also features the better liquidity with an average daily trading volume for the past three months that is better than quadruple what WOOD features.
On the other hand, WOOD does offer the better expense ratio at 0.48% compared to 0.65% for CUT. Obviously both funds are going to have some of the same holdings, but the allocations are different because WOOD is nearly half allocated to the U.S. while about a quarter of CUT's allocation is devoted to the U.S. Either way, you'll see Rayoneir (NYSE: RYN), Weyerhaeuser (NYSE: WY) and MeadWestvaco (NYSE: MV) among the top 10-holdings for both ETFs. International Paper (NYSE: IP )is found among CUT's top-10, but not WOOD's.
Making a decision between these two funds is hard, but it is clear timber exposure is worth a look now. Over the last 30 years or more, there has been little or no positive correlation between the returns generated from timberland and those from either fixed-income or equity assets, according to Hard Assets Investor.
A long-term hold might want to opt for WOOD because of the lower expense ratio, but an active trader should go for CUT because of the of the superior liquidity. Consider this showdown a draw with a slight edge to CUT.
Disclosure None
Monday, January 17, 2011
5 Areas We’ll Feel Inflation; 5 ETFs to Fight Back
If you’ve been living on the cheap, that could soon change as inflation becomes an increasingly real prospect. Life could get more expensive, but you can use these exchange traded funds (ETFs) to keep it from becoming unbearably so.
When we see inflation, it will hit across the board, but some areas will feel it more than others. According to Economic Policy Journal, those areas are:
1. The Grocery Store: The USDA forecasts a 2% to 3% hike in the cost of all foods in 2011…Expect a big spike in the dairy case and meat counter, where pork alone is forecast to rise between 3% and 4%. [Play Food Price Shock With 4 ETFs.] PowerShares DB Agriculture (NYSEArca: DBA)
2. Gas and Natural Gas: Gas prices are on the rise, and that’s both the kind you use to fuel your car and the kind you use to heat your home in frigid winters. This is one area that could get more expensive even in the absence of inflation. United States Gasoline (NYSEArca: UGA)
3. Health Insurance and Medical Costs: Blue Shield in California said it was going to raise premiums by almost 60% and they’re not the only ones hiking rates big-time. iShares Dow Jones U.S. Healthcare Provider (NYSEArca: IHF)
4. Cotton Clothing: Cotton prices are on the upswing and you may already be feeling it. Cotton is now 80% more expensive than it was at the start of 2010 and many manufacturers are starting to pay it forward. iPath Dow Jones-AIG Cotton Total Return Sub-Index ETN (NYSEArca: BAL)
5. Banking: Checking fees, ATM fees, safety deposit box fees, talking to a teller fees. Some charge you even just to look at checks. Bank stocks, however, don’t look like they’re getting cheaper. SPDR KBW Bank (NYSEArca: KBE)
Disclosure None
When we see inflation, it will hit across the board, but some areas will feel it more than others. According to Economic Policy Journal, those areas are:
1. The Grocery Store: The USDA forecasts a 2% to 3% hike in the cost of all foods in 2011…Expect a big spike in the dairy case and meat counter, where pork alone is forecast to rise between 3% and 4%. [Play Food Price Shock With 4 ETFs.] PowerShares DB Agriculture (NYSEArca: DBA)
2. Gas and Natural Gas: Gas prices are on the rise, and that’s both the kind you use to fuel your car and the kind you use to heat your home in frigid winters. This is one area that could get more expensive even in the absence of inflation. United States Gasoline (NYSEArca: UGA)
3. Health Insurance and Medical Costs: Blue Shield in California said it was going to raise premiums by almost 60% and they’re not the only ones hiking rates big-time. iShares Dow Jones U.S. Healthcare Provider (NYSEArca: IHF)
4. Cotton Clothing: Cotton prices are on the upswing and you may already be feeling it. Cotton is now 80% more expensive than it was at the start of 2010 and many manufacturers are starting to pay it forward. iPath Dow Jones-AIG Cotton Total Return Sub-Index ETN (NYSEArca: BAL)
5. Banking: Checking fees, ATM fees, safety deposit box fees, talking to a teller fees. Some charge you even just to look at checks. Bank stocks, however, don’t look like they’re getting cheaper. SPDR KBW Bank (NYSEArca: KBE)
Disclosure None
Saturday, January 15, 2011
Guggenheim Funds ETFs Declare Year-End and Capital Gains Distributions
Guggenheim Funds Investment Advisors, LLC, is pleased to announce that today the following Guggenheim Funds Exchange-Traded Funds (“ETFs”) have declared regular and periodic year-end distributions. The table below summarizes the distribution schedule for each Fund declaring a distribution.
Please note that some of the funds listed below were impacted by Passive Foreign Investment Company (PFIC) tax adjustments. PFICs are generally defined as non-U.S. corporations with 50% or more of their assets invested in cash or securities, or 75% or more of their gross income originating from passive sources. Passive sources include, but are not limited to rents, interest and dividends. As such, these foreign companies primarily generate their revenue from investments versus operations. The approximate percentage of the total distribution that resulted from the fund holding PFICs was as follows: EEB (1.3%), EEN (23.8%), XGC (6.9%), FAA (100%) and CQQQ (2.9%).
For All Funds: Ex-Date: 12/27/2010 Record Date: 12/29/2010 Payable Date: 12/31/2010
1The name of the Fund will be changing to the Guggenheim Enhanced Core Bond ETF and the Fund’s ticker symbol will change to GIY, anticipated to occur on January 24, 2011 (or as soon as possible thereafter upon receipt of necessary regulatory approvals from the Securities and Exchange Commission). At that time, the Fund’s investment objective will change. The Guggenheim Enhanced Core Bond ETF’s investment objective will be to seek total return, comprised of income and capital appreciation. At that time, the Fund will cease to operate as an index-based ETF, and will begin to operate as an actively managed ETF. 2The name of the Fund will be changing to the Guggenheim Enhanced Ultra-Short Bond ETF and the Fund’s ticker symbol will change to GSY, anticipated to occur on January 24, 2011 (or as soon as possible thereafter upon receipt of necessary regulatory approvals from the Securities and Exchange Commission). At that time, the Fund’s investment objective will change. The Guggenheim Enhanced Ultra-Short Bond ETF’s investment objective will be to seek maximum current income, consistent with preservation of capital and daily liquidity. At that time, the Fund will cease to operate as an index-based ETF, and will begin to operate as an actively managed ETF. 3Prior to August 20, 2010, the Fund’s name was Claymore/Sabrient Stealth ETF and the Fund sought to replicate an index called the Sabrient Stealth Index.
Past performance is not indicative of future performance. To the extent any portion of the distribution is estimated to be sourced from something other than income, such as return of capital, the source would be disclosed on a Section 19(a)-1 letter located on the Fund’s website under the “Literature” tab. A distribution rate that is largely comprised of sources other than income may not be reflective of the Fund’s performance.
Disclosure I am long CVY shares and waiting on a shot at SEA.
Please note that some of the funds listed below were impacted by Passive Foreign Investment Company (PFIC) tax adjustments. PFICs are generally defined as non-U.S. corporations with 50% or more of their assets invested in cash or securities, or 75% or more of their gross income originating from passive sources. Passive sources include, but are not limited to rents, interest and dividends. As such, these foreign companies primarily generate their revenue from investments versus operations. The approximate percentage of the total distribution that resulted from the fund holding PFICs was as follows: EEB (1.3%), EEN (23.8%), XGC (6.9%), FAA (100%) and CQQQ (2.9%).
For All Funds: Ex-Date: 12/27/2010 Record Date: 12/29/2010 Payable Date: 12/31/2010
| Long-Term | ||||||||||||
| Ticker | Monthly/Quarterly Distributions | Rate | Supplemental | Short-Term | Capital | Total | ||||||
| Distribution | Capital Gain | Gain | Distribution | |||||||||
| $ 0.247 | - | - | - | $ 0.247 | ||||||||
| $ 0.179 | - | - | - | $ 0.179 | ||||||||
| $ 0.186 | - | - | - | $ 0.186 | ||||||||
| $ 0.107 | - | - | - | $ 0.107 | ||||||||
| $ 0.163 | - | - | - | $ 0.163 | ||||||||
| $ 0.071 | $ 0.294 | $ 0.249 | $0.182 | $ 0.796 | ||||||||
| $0.000 | $0.005 | - | - | $0.005 | ||||||||
| $0.209 | - | - | - | $0.209 | ||||||||
| Long-Term | ||||||||||||
| Ticker | Annual Distributions | Rate | Supplemental | Short-Term | Capital | Total | ||||||
| Distribution | Capital Gain | Gain | Distribution | |||||||||
| $0.417 | - | - | - | $0.417 | ||||||||
| $0.133 | - | - | - | $0.133 | ||||||||
| $0.107 | - | - | - | $0.107 | ||||||||
| $0.594 | - | - | - | $0.594 | ||||||||
| $0.195 | - | - | - | $0.195 | ||||||||
| $0.388 | - | - | - | $0.388 | ||||||||
| $0.863 | - | - | - | $0.863 | ||||||||
| $0.770 | - | - | - | $0.770 | ||||||||
| $0.028 | - | - | - | $0.028 | ||||||||
| $0.126 | - | - | - | $0.126 | ||||||||
| $0.443 | - | - | - | $0.443 | ||||||||
| $0.201 | - | - | - | $0.201 | ||||||||
| $0.333 | - | - | - | $0.333 | ||||||||
| $0.365 | - | - | - | $0.365 | ||||||||
| $0.029 | - | - | - | $0.029 | ||||||||
| $0.153 | - | - | - | $0.153 | ||||||||
| $0.400 | - | - | - | $0.400 | ||||||||
| $0.060 | - | - | - | $0.060 | ||||||||
| $0.335 | - | - | - | $0.335 | ||||||||
| $0.429 | - | - | - | $0.429 | ||||||||
| $0.078 | - | - | - | $0.078 | ||||||||
| $0.282 | - | - | - | $0.282 | ||||||||
Past performance is not indicative of future performance. To the extent any portion of the distribution is estimated to be sourced from something other than income, such as return of capital, the source would be disclosed on a Section 19(a)-1 letter located on the Fund’s website under the “Literature” tab. A distribution rate that is largely comprised of sources other than income may not be reflective of the Fund’s performance.
Disclosure I am long CVY shares and waiting on a shot at SEA.
As Build America Bonds Program Expires, Investors Look To Biggest Issuers
The popular Build America Bonds program, which subsidizes state and local agency debt, is set to expire tomorrow.
The situation is likely to make liquidity the key driver in money managers’ decisions about what to do with the bonds in 2011, Bloomberg notes.
The vast majority of BABs are long-term issues. So states like California, which was the biggest issuer of the taxable bonds in 2010, seems destined to remain at the top of investors’ shopping lists in the coming year.
The state’s 7.25% yield on long-term BABs when compared with similar-termed Treasuries is running about 2.8 percentage points greater, according to the report.
The typical national BAB’s extra yield over Treasuries is running about a percentage point behind that of California’s at the moment, data from a Wells Fargo (WFC) index indicates.
The PowerShares Build America Bond Portfolio (BAB) has gained 8.8% through yesterday, according to Morningstar data. But in the past three months, it has lost 5.6%.
Meanwhile, the SPDR Nuveen Barclays Cap Build America Bond ETF (BABS) has slipped even more, down almost 8% on a total return basis.
Disclosure I am long Both BABS and BAB.
The situation is likely to make liquidity the key driver in money managers’ decisions about what to do with the bonds in 2011, Bloomberg notes.
The vast majority of BABs are long-term issues. So states like California, which was the biggest issuer of the taxable bonds in 2010, seems destined to remain at the top of investors’ shopping lists in the coming year.
The state’s 7.25% yield on long-term BABs when compared with similar-termed Treasuries is running about 2.8 percentage points greater, according to the report.
The typical national BAB’s extra yield over Treasuries is running about a percentage point behind that of California’s at the moment, data from a Wells Fargo (WFC) index indicates.
The PowerShares Build America Bond Portfolio (BAB) has gained 8.8% through yesterday, according to Morningstar data. But in the past three months, it has lost 5.6%.
Meanwhile, the SPDR Nuveen Barclays Cap Build America Bond ETF (BABS) has slipped even more, down almost 8% on a total return basis.
Disclosure I am long Both BABS and BAB.
Are ETNs Finally Coming Of Age?
The success of a number of exchange-traded notes this year, including two that canvass the market of VIX volatility futures and others offering investors exposure to master limited partnerships, is raising the question of whether ETNs are about to truly take off and become part of every investor’s portfolio.
ETNs, unlike ETFs, offer investors direct exposure to an underlying index, minus expenses. They don’t own underlying baskets of securities like ETFs do, which not only eliminates tracking error but also gives ETNs access to parts of the investment universe that are hard to cover.
The catch -- and it’s been a big one since the market crash of 2008, 2009 -- is that ETNs are unsecured credit obligations backed only by the faith and good credit of their issuers. If an issuer goes under, investors essentially forfeit their entire investment. That chance seemed very remote when ETNs first launched in 2006, and perhaps it’s fading today. Some issuers say investors are getting over fears and are now curious about ETN attributes, including tax advantages.
“I am very confident that we’re going through what I’m calling ‘The Big Thaw’ when it comes to exchange-traded notes, and I think it started with the VIX products that iPath brought,” Bryon Lake, senior product strategy manager at Wheaton, Ill.-based Invesco PowerShares, said in a telephone interview. “We’re getting more questions and more feedback from investors that are looking for and comfortable with the exchange-traded note.”
ETNs represent about $14.5 billion out of the $1 trillion invested in exchange-traded vehicles, according to data compiled by IndexUniverse.com. And, inflows are building momentum:$1.21 billion in 2008; $4.18 billion in 2009 and almost $6 billion in 2010. Moreover, while ETN assets are less than 1.5 percent of total assets in exchange-traded products, the number of ETNs on the market is 131, or almost 12 percent of the 1,101 ETPs now listed in the U.S.
"It's clear that 2010 was the year of the ETN," said Keith Styrcula, chairman and founder of the Structured Products Association, a New York-based trade group with its finger on the pulse of developments in the world of ETNs. "With the proliferation of new issues and new issuers, the ETN came into its own as a liquid, tax-efficient investment vehicle," Styrcula added.
VIX, MLPs, Commodities and Beyond
Much of the recent growth in ETN assets has centered on a few products, notably the iPath S&P 500 VIX Short-Term Futures ETN (NYSEArca:VXX - News) and the iPath S&P 500 VIX Mid-Term Futures ETN (NYSEArca:VXZ - News). The two products now have $1.69 billion and $696 million in assets, respectively. The notes are designed to provide proxy exposure to the CBOE Volatility Index, or VIX, by reflecting the returns of short- and intermediate-term futures on the VIX index. Investors have been attracted to them as a potential hedge against unexpected market turbulence.
“ETNs allow you to track the more esoteric asset classes that would be tougher to do with an ETF, like the VIX, said Rick Romey, president of of ETF Portfolio Solutions, a Kansas-based Registered Investment Advisor. Romey added that his firm has not yet embraced ETNs, in part because of credit-related concerns.
The other big relative newcomer is the JPMorgan Alerian MLP Index ETN (NYSEArca:AMJ - News), a first-to-market exchange-traded note launched originally by Bear Stearns. After treading water for a few years, AMJ has caught on, pulling in more than $1 billion in new cash flow in the past year. It now has $2.26 billion in assets. Investors are attracted to AMJ for its yield, currently around 5 percent. ETNs are a slick vehicle for providing exposure to MLPs, which are nearly impossible to package into a tax-efficient mutual fund or ETF structure.
The third leg of ETN assets is in commodities, an area that includes the oldest and biggest ETN of all, the $2.82 billion iPath Dow Jones-UBS Commodity Total Return ETN (NYSEArca:DJP - News). DJP launched in 2006.
iPath has a broad family of futures-based commodity-related ETNs, which the company says gives investors the ability to play the emerging markets-related commodities boom of the past 10 years in a variety of ways.
“At different times, different commodities become interesting to people,” Tim Edwards, a New York-based iPath product development vice president, told IndexUniverse.com. “Right now, copper is one of them.”
The iPath Dow Jones-UBS Copper Sub Total Return ETN (NYSEArca:JJC - News) has returned about 25 percent this year and 43 percent in the past six months; it is currently the only ETP providing exposure specifically to copper. Two ETFs, the First Trust ISE Global Copper Index Fund (NYSEArca: CU) and the Global X Copper Miners ETF (NYSEArca:COPX - News) own companies that mine copper, though the companies held by the ETFs aren't necessarily exclusively focused on the mining of copper.
The iPath family of ETN also includes securities that allow investors to get exposure to currencies and to position their portfolios for changing interest rates.
Different Tax Treatment
Invesco PowerShares has built on the success of its commodities ETF franchise (including the $5 billion PowerShares DB Commodity Tracking ETF (NYSEArca:DBC - News)) and now offers investors the option of gaining similar exposure in an ETN wrapper. DBC’s ETN counterpart, the PowerShares DB Commodity Long ETN (NYSEArca:DPU - News), had gathered $6.7 million as of Dec. 29.
Apart from the broad-based DPU, the company has replicated ETF strategies using ETNs in four other commodity markets:oil, base metals, agriculture and gold. PowerShares has extended the market on the ETN side with short ETNs and ETNs offering double-exposure long and short.
“The ETN structure provides us some flexibility in order to access markets that may be more difficult to access through the ETF vehicle,” Bryon Lake, the PowerShares executive said. “For example, our double-long and double-short gold ETNs -- (NYSEArca:DGP - News) and (NYSEArca:DZZ - News) -- have seen significant uptick in activity and assets due to all the attention gold has been getting for the last year or so,” Lake said.
There are also potential tax advantages to owning ETNs, which, for commodity ETNs under prevailing IRS interpretations, are taxed like zero-coupon bonds. That means investors don’t owe tax on the note until they sell, the note gets called (if it’s callable), or the note matures. Commodity ETF investors have their positions marked-to-market each year, creating an annual tax bill. ETN investors also have to fill out 1099 tax forms, as opposed to the K1 forms reserved for investors in futures. That’s true even for ETN investors with futures-based holdings.
“We hear from some investors that they would prefer to not get K1s,” said Lake. “And they can generally get the same exposure through ETN vehicles that may offer them a different tax treatment.”
Lingering Doubts
Currently, the biggest issuers of ETNs are firms that thrived during the near-collapse of the financial system in September 2008. Indeed, companies such as iPath ETN issuer Barclays; J.P. Morgan, the company behind the MLP exchange-traded note “AMJ;” and Deutsche Bank, the sponsor of the ETNs marketed by PowerShares, all took advantage of the turmoil their rivals barely survived.
“The market crash got rid of a lot of players in the marketplace. So those who were left standing like Barclays who had the creditworthiness, could then grab a bigger market share,” said Richard Keary, president of Global ETF Advisors LLC, a New York-based firm that helps companies bring exchange-traded products to market.
Recently, however, that has changed. Citigroup recently launched the volatility-related C-Tracks Exchange-Traded Notes Based on the Performance of the Citi Volatility Index (NYSEArca:CVOL - News). The note has attracted $13.8 million in assets since its rollout in mid-November. A slew of other firms are also jumping into the ETN arena, among them Credit Suisse, UBS, the Royal Bank of Scotland as well as a firm called VelocityShares that was formed in part by an executive who helped launch iPath's ETNs
What could that mean? Are investors so complacent that firms, such as CitiGroup or RBS, formerly on life-support can now issue debt products and attract attention? Or have Citi and RBS turned the corner and now is seen as trustworthy? Or, mostly likely, do investors see these as trading products designed for one- or two-day moves, and not as long-haul investments where the credit risk most matters.
Maybe that’s the secret of the ETN rebirth:the notes have focused on providing trading tools rather than long-term investments, reducing the likelihood that investors will be caught in a failed situation.
The uncertainty brings the discussion full circle back to the credit risk implicit in any ETN. After all, three ETN backed by Lehman Brothers closed in September 2008 after the firm declared bankruptcy, and any investor who held to the bitter end lost out.
“I know it’s a long shot,” said Rick Romey, the Kansas-based financial advisor. “The odds of a company going out of business and the ETN holders being left holding the bag is very small probability. But in the last couple of years, we’ve seen a lot of long shots come to fruition and hurt a lot of people.”
Time will tell.
Disclosure I am long AMJ approx 2 weeks ago.
ETNs, unlike ETFs, offer investors direct exposure to an underlying index, minus expenses. They don’t own underlying baskets of securities like ETFs do, which not only eliminates tracking error but also gives ETNs access to parts of the investment universe that are hard to cover.
The catch -- and it’s been a big one since the market crash of 2008, 2009 -- is that ETNs are unsecured credit obligations backed only by the faith and good credit of their issuers. If an issuer goes under, investors essentially forfeit their entire investment. That chance seemed very remote when ETNs first launched in 2006, and perhaps it’s fading today. Some issuers say investors are getting over fears and are now curious about ETN attributes, including tax advantages.
“I am very confident that we’re going through what I’m calling ‘The Big Thaw’ when it comes to exchange-traded notes, and I think it started with the VIX products that iPath brought,” Bryon Lake, senior product strategy manager at Wheaton, Ill.-based Invesco PowerShares, said in a telephone interview. “We’re getting more questions and more feedback from investors that are looking for and comfortable with the exchange-traded note.”
ETNs represent about $14.5 billion out of the $1 trillion invested in exchange-traded vehicles, according to data compiled by IndexUniverse.com. And, inflows are building momentum:$1.21 billion in 2008; $4.18 billion in 2009 and almost $6 billion in 2010. Moreover, while ETN assets are less than 1.5 percent of total assets in exchange-traded products, the number of ETNs on the market is 131, or almost 12 percent of the 1,101 ETPs now listed in the U.S.
"It's clear that 2010 was the year of the ETN," said Keith Styrcula, chairman and founder of the Structured Products Association, a New York-based trade group with its finger on the pulse of developments in the world of ETNs. "With the proliferation of new issues and new issuers, the ETN came into its own as a liquid, tax-efficient investment vehicle," Styrcula added.
| Top Gainers ($, Millions) | 2010's Most Popular ETNs as of Dec. 29 | ||||||
| Ticker | Name | Issuer | Flows | AUM ($, M) | Turnover | ||
| VXX | iPath S&P 500 VIX Short-Term Futures ETN | Barclays Capital | 2,591.07 | 1,692.04 | 119,135.19 | ||
| AMJ | JPMorgan Alerian MLP ETN | JPMorgan Chase | 1,229.85 | 2,255.00 | 6,148.97 | ||
| VXZ | iPath S&P 500 VIX Mid-Term Futures ETN | Barclays Capital | 700.23 | 695.89 | 7,977.51 | ||
| DJP | iPath Dow Jones-UBS Commodity Total Return ETN | Barclays Capital | 322.65 | 2,822.92 | 3,995.61 | ||
| MLPI | UBS E-TRACS Alerian MLP Infrastructure ETN | UBS | 180.51 | 194.27 | 243.62 | ||
| RJI | ELEMENTS Rogers International Commodity - Total Return ETN | ELEMENTS | 141.84 | 662.92 | 872.68 | ||
| MLPN | Credit Suisse Cushing 30 MLP | Credit Suisse | 94.13 | 121.30 | 377.98 | ||
| RJA | ELEMENTS Rogers International Commodity - Agriculture Total Return ETN | ELEMENTS | 90.57 | 517.06 | 890.05 | ||
| UCI | UBS E-TRACS CMCI Total Return ETN | UBS | 81.81 | 129.99 | 54.94 | ||
| JJG | iPath Dow Jones UBS Grains Sub Total Return ETN | Barclays Capital | 80.59 | 188.89 | 973.92 |
VIX, MLPs, Commodities and Beyond
Much of the recent growth in ETN assets has centered on a few products, notably the iPath S&P 500 VIX Short-Term Futures ETN (NYSEArca:VXX - News) and the iPath S&P 500 VIX Mid-Term Futures ETN (NYSEArca:VXZ - News). The two products now have $1.69 billion and $696 million in assets, respectively. The notes are designed to provide proxy exposure to the CBOE Volatility Index, or VIX, by reflecting the returns of short- and intermediate-term futures on the VIX index. Investors have been attracted to them as a potential hedge against unexpected market turbulence.
“ETNs allow you to track the more esoteric asset classes that would be tougher to do with an ETF, like the VIX, said Rick Romey, president of of ETF Portfolio Solutions, a Kansas-based Registered Investment Advisor. Romey added that his firm has not yet embraced ETNs, in part because of credit-related concerns.
The other big relative newcomer is the JPMorgan Alerian MLP Index ETN (NYSEArca:AMJ - News), a first-to-market exchange-traded note launched originally by Bear Stearns. After treading water for a few years, AMJ has caught on, pulling in more than $1 billion in new cash flow in the past year. It now has $2.26 billion in assets. Investors are attracted to AMJ for its yield, currently around 5 percent. ETNs are a slick vehicle for providing exposure to MLPs, which are nearly impossible to package into a tax-efficient mutual fund or ETF structure.
The third leg of ETN assets is in commodities, an area that includes the oldest and biggest ETN of all, the $2.82 billion iPath Dow Jones-UBS Commodity Total Return ETN (NYSEArca:DJP - News). DJP launched in 2006.
iPath has a broad family of futures-based commodity-related ETNs, which the company says gives investors the ability to play the emerging markets-related commodities boom of the past 10 years in a variety of ways.
“At different times, different commodities become interesting to people,” Tim Edwards, a New York-based iPath product development vice president, told IndexUniverse.com. “Right now, copper is one of them.”
The iPath Dow Jones-UBS Copper Sub Total Return ETN (NYSEArca:JJC - News) has returned about 25 percent this year and 43 percent in the past six months; it is currently the only ETP providing exposure specifically to copper. Two ETFs, the First Trust ISE Global Copper Index Fund (NYSEArca: CU) and the Global X Copper Miners ETF (NYSEArca:COPX - News) own companies that mine copper, though the companies held by the ETFs aren't necessarily exclusively focused on the mining of copper.
The iPath family of ETN also includes securities that allow investors to get exposure to currencies and to position their portfolios for changing interest rates.
Different Tax Treatment
Invesco PowerShares has built on the success of its commodities ETF franchise (including the $5 billion PowerShares DB Commodity Tracking ETF (NYSEArca:DBC - News)) and now offers investors the option of gaining similar exposure in an ETN wrapper. DBC’s ETN counterpart, the PowerShares DB Commodity Long ETN (NYSEArca:DPU - News), had gathered $6.7 million as of Dec. 29.
Apart from the broad-based DPU, the company has replicated ETF strategies using ETNs in four other commodity markets:oil, base metals, agriculture and gold. PowerShares has extended the market on the ETN side with short ETNs and ETNs offering double-exposure long and short.
“The ETN structure provides us some flexibility in order to access markets that may be more difficult to access through the ETF vehicle,” Bryon Lake, the PowerShares executive said. “For example, our double-long and double-short gold ETNs -- (NYSEArca:DGP - News) and (NYSEArca:DZZ - News) -- have seen significant uptick in activity and assets due to all the attention gold has been getting for the last year or so,” Lake said.
There are also potential tax advantages to owning ETNs, which, for commodity ETNs under prevailing IRS interpretations, are taxed like zero-coupon bonds. That means investors don’t owe tax on the note until they sell, the note gets called (if it’s callable), or the note matures. Commodity ETF investors have their positions marked-to-market each year, creating an annual tax bill. ETN investors also have to fill out 1099 tax forms, as opposed to the K1 forms reserved for investors in futures. That’s true even for ETN investors with futures-based holdings.
“We hear from some investors that they would prefer to not get K1s,” said Lake. “And they can generally get the same exposure through ETN vehicles that may offer them a different tax treatment.”
Lingering Doubts
Currently, the biggest issuers of ETNs are firms that thrived during the near-collapse of the financial system in September 2008. Indeed, companies such as iPath ETN issuer Barclays; J.P. Morgan, the company behind the MLP exchange-traded note “AMJ;” and Deutsche Bank, the sponsor of the ETNs marketed by PowerShares, all took advantage of the turmoil their rivals barely survived.
“The market crash got rid of a lot of players in the marketplace. So those who were left standing like Barclays who had the creditworthiness, could then grab a bigger market share,” said Richard Keary, president of Global ETF Advisors LLC, a New York-based firm that helps companies bring exchange-traded products to market.
Recently, however, that has changed. Citigroup recently launched the volatility-related C-Tracks Exchange-Traded Notes Based on the Performance of the Citi Volatility Index (NYSEArca:CVOL - News). The note has attracted $13.8 million in assets since its rollout in mid-November. A slew of other firms are also jumping into the ETN arena, among them Credit Suisse, UBS, the Royal Bank of Scotland as well as a firm called VelocityShares that was formed in part by an executive who helped launch iPath's ETNs
What could that mean? Are investors so complacent that firms, such as CitiGroup or RBS, formerly on life-support can now issue debt products and attract attention? Or have Citi and RBS turned the corner and now is seen as trustworthy? Or, mostly likely, do investors see these as trading products designed for one- or two-day moves, and not as long-haul investments where the credit risk most matters.
Maybe that’s the secret of the ETN rebirth:the notes have focused on providing trading tools rather than long-term investments, reducing the likelihood that investors will be caught in a failed situation.
The uncertainty brings the discussion full circle back to the credit risk implicit in any ETN. After all, three ETN backed by Lehman Brothers closed in September 2008 after the firm declared bankruptcy, and any investor who held to the bitter end lost out.
“I know it’s a long shot,” said Rick Romey, the Kansas-based financial advisor. “The odds of a company going out of business and the ETN holders being left holding the bag is very small probability. But in the last couple of years, we’ve seen a lot of long shots come to fruition and hurt a lot of people.”
Time will tell.
Disclosure I am long AMJ approx 2 weeks ago.
Alerian MLP Index Concludes Stellar Decade
In the last decade (January 1, 2001 to December 31, 2010), the MLPs had one of the best gains ever for any industry group. Below are the beginning and ending values for the Alerian MLP Index along with the previous record reached in 2007.
The Alerian MLP Index, AMZ, almost tripled, very impressive considering how many quality companies had little or even negative appreciation in this decade. Dividend Aristocrats (with a minimum history of 25 years of annual increased dividends) such as General Electric (PFE) and Bank of America (BAC) reduced dividends during the recession, resulting in their removal from this elite group. AMZX, the comparable index including reinvested income, had a superb performance, rising more than five times the original value, with an equivalent compounded annual growth rate of more than 18%.
An alternative measure of performance is to begin with the record value reached in July 2007 (what turned out to signal the first wave of the financial market meltdown). The index is up 21 (6%) while the index including reinvested income rose 37% (equivalent to a compounded annual growth rate of 13%). Gold is one of only a few investments with higher growth rates since then.
The business model of MLPs has remained intact during the financial meltdown and recovery. Funds were raised to finance expansion of pipelines and other fixed assets while many companies had difficulty securing financing.
In 2009, a number of closed end funds and mutual funds were started to track MLP indices or concentrate on MLP investments. They give an averaging effect for the investor but do not have tax hassle (and lack tax benefits) associated with owning MLP units. AMJ is one of the oldest tracking funds (almost two years old). For AMJ, 10 shares approximate the value of AMZ with a current yield of almost 5%. Dividends are paid from distributions received net of fund expenses. There are a number of tracking funds but one, MLPL, needs to be singled out for its high risk. This fund's goal is to double the yield and capital appreciation (capital losses are also doubled). But added potential gains bring added risks. Doubler funds have poor records of tracking their base funds over the long term. In addition higher interest rates on borrowed funds, used to achieve doubler effects, will reduce net income for MLPL.
There are other ways to participate in MLP growth by purchasing shares in corporations. Kinder Morgan (KMR) and Enbridge Energy (EEQ) are stocks created by these MLPs. Shares track the comparable unit prices and pay stock dividends based on the distributions to the respective units, making them very tax efficient.
The rapid rise for MLPs in the last two years could cause them to run into headwinds in 2011. Higher values bring lower yields. The yield on the index has fallen to 6.2%, the lower region in its 15 year history. MLPs remain yield investments and low yields suggest topping in market prices. In the last two months the index was sluggish after reaching new record levels, while Treasury rates rose sharply (1 percentage point for the yield on the 10 year Treasury bond).
The long term outlook for the industry remains excellent, but it will be difficult to replicate the performance of the last decade. Growth rates could slow. Derived investment income from the index has risen at an annual rate of 5½% in the last three years which may be representative of the rate going forward, implying investment income of 38.50 in 2020. Today's low yield of 6.2% projects an ending value of 620 for the index, a 71% gain in this decade. Different assumptions will change the ending value, but it's logical to assume that the growth rate of income will slow for a more mature industry. Existing unit holders ought to be happy with this growth but new investors should be prepared for slower growth of distributions and higher yields which would further limit growth of unit prices (and the index).
Disclosure I am long GE, PFE and AMJ.
Date -- AMZ -- AMZX - Yield
12/31/00 - 131 - 191 - 8.8%
07/13/07 - 342 - 750 - 5.4%
12/31/10 - 363 - 1026 - 6.2%
12/31/00 - 131 - 191 - 8.8%
07/13/07 - 342 - 750 - 5.4%
12/31/10 - 363 - 1026 - 6.2%
An alternative measure of performance is to begin with the record value reached in July 2007 (what turned out to signal the first wave of the financial market meltdown). The index is up 21 (6%) while the index including reinvested income rose 37% (equivalent to a compounded annual growth rate of 13%). Gold is one of only a few investments with higher growth rates since then.
The business model of MLPs has remained intact during the financial meltdown and recovery. Funds were raised to finance expansion of pipelines and other fixed assets while many companies had difficulty securing financing.
In 2009, a number of closed end funds and mutual funds were started to track MLP indices or concentrate on MLP investments. They give an averaging effect for the investor but do not have tax hassle (and lack tax benefits) associated with owning MLP units. AMJ is one of the oldest tracking funds (almost two years old). For AMJ, 10 shares approximate the value of AMZ with a current yield of almost 5%. Dividends are paid from distributions received net of fund expenses. There are a number of tracking funds but one, MLPL, needs to be singled out for its high risk. This fund's goal is to double the yield and capital appreciation (capital losses are also doubled). But added potential gains bring added risks. Doubler funds have poor records of tracking their base funds over the long term. In addition higher interest rates on borrowed funds, used to achieve doubler effects, will reduce net income for MLPL.
There are other ways to participate in MLP growth by purchasing shares in corporations. Kinder Morgan (KMR) and Enbridge Energy (EEQ) are stocks created by these MLPs. Shares track the comparable unit prices and pay stock dividends based on the distributions to the respective units, making them very tax efficient.
The rapid rise for MLPs in the last two years could cause them to run into headwinds in 2011. Higher values bring lower yields. The yield on the index has fallen to 6.2%, the lower region in its 15 year history. MLPs remain yield investments and low yields suggest topping in market prices. In the last two months the index was sluggish after reaching new record levels, while Treasury rates rose sharply (1 percentage point for the yield on the 10 year Treasury bond).
The long term outlook for the industry remains excellent, but it will be difficult to replicate the performance of the last decade. Growth rates could slow. Derived investment income from the index has risen at an annual rate of 5½% in the last three years which may be representative of the rate going forward, implying investment income of 38.50 in 2020. Today's low yield of 6.2% projects an ending value of 620 for the index, a 71% gain in this decade. Different assumptions will change the ending value, but it's logical to assume that the growth rate of income will slow for a more mature industry. Existing unit holders ought to be happy with this growth but new investors should be prepared for slower growth of distributions and higher yields which would further limit growth of unit prices (and the index).
Disclosure I am long GE, PFE and AMJ.
ETF to Watch: Treasury Ladder Fund (PLW)
The fixed income ETF space has grown considerably over the past two years, as investors worried about a slowdown in developed markets have bought up bonds despite record low yields. The first 11 months of 2010 saw cash inflows of approximately $100 billion into the ETF industry, and about $29 billion of that total went to bond products. The prices of bonds have skyrocketed in recent months on risk aversion, leading many analysts to worry a bond bubble is forming -- though these fears have somewhat calmed as equities have made a push to end 2010 on a positive note. Recent events have raised new concerns about the fixed income space, as Treasury prices fell and yields spiked to the highest level in quite some time.
From Monday to Wednesday, yields on the 10-year notes surged by 30 basis points, the largest two day run-up since the fall of the Lehman Brothers in 2008. But why the sudden spike in Treasury yields across the board, especially given ongoing worries in Europe? It seems that the general consensus is that the U.S. is not properly dealing with its budget deficit, with President Obama and the Congressional Republicans appear to be close to nearing an end to a tax-compromise deal that aims to jump-start consumer spending and growth, but at the same time increase the already massive deficit with the issuance of more debt.
This was further confirmed by a 10-year T-Bill auction that took place earlier in the week when the debt issuance failed to attract a solid number of investors. "It is extremely revealing of just how poor conditions are when we get one of the weakest 10-year auctions on record, even after the worst two day downdraft in 10-year yields since the turbulent, dark days of September 2008," said strategists at Nomura Securities. Focus will now shift to the long-term side of the market as the Treasury will issue 30-year bonds. Hopefully these notes will be better received than their shorter-term counterparts, but there is a fair amount of skepticism.
The 30-year auction will be closely followed today, putting all funds in the Treasury Bonds ETFdb Category in focus. In addition to dozens of funds honing in on various stretches of the maturity curve, there are a few ETFs that spread exposure throughout the Treasury market, including the PowerShares 1-30 Treasury Ladder Portfolio (NYSE: PLW). This fund follows the Ryan/Mergent 1-30 Year Treasury Laddered Index, which measures the potential returns of the U.S. Treasury yield curve based on approximately 30 equally weighted U.S. Treasury issues with fixed coupons, scheduled to mature in a proportional, annual laddered structure. If today's bond auction attracts a low level of demand, prices may take yet another hit, sending this fund down. But if the auction goes well and the recent sell-offs in Treasuries attract opportunistic buyers, the Treasury bond space could be due for a bounceback on Thursday.
Disclosure I am long PLW shares and have been for quite some time.
From Monday to Wednesday, yields on the 10-year notes surged by 30 basis points, the largest two day run-up since the fall of the Lehman Brothers in 2008. But why the sudden spike in Treasury yields across the board, especially given ongoing worries in Europe? It seems that the general consensus is that the U.S. is not properly dealing with its budget deficit, with President Obama and the Congressional Republicans appear to be close to nearing an end to a tax-compromise deal that aims to jump-start consumer spending and growth, but at the same time increase the already massive deficit with the issuance of more debt.
This was further confirmed by a 10-year T-Bill auction that took place earlier in the week when the debt issuance failed to attract a solid number of investors. "It is extremely revealing of just how poor conditions are when we get one of the weakest 10-year auctions on record, even after the worst two day downdraft in 10-year yields since the turbulent, dark days of September 2008," said strategists at Nomura Securities. Focus will now shift to the long-term side of the market as the Treasury will issue 30-year bonds. Hopefully these notes will be better received than their shorter-term counterparts, but there is a fair amount of skepticism.
The 30-year auction will be closely followed today, putting all funds in the Treasury Bonds ETFdb Category in focus. In addition to dozens of funds honing in on various stretches of the maturity curve, there are a few ETFs that spread exposure throughout the Treasury market, including the PowerShares 1-30 Treasury Ladder Portfolio (NYSE: PLW). This fund follows the Ryan/Mergent 1-30 Year Treasury Laddered Index, which measures the potential returns of the U.S. Treasury yield curve based on approximately 30 equally weighted U.S. Treasury issues with fixed coupons, scheduled to mature in a proportional, annual laddered structure. If today's bond auction attracts a low level of demand, prices may take yet another hit, sending this fund down. But if the auction goes well and the recent sell-offs in Treasuries attract opportunistic buyers, the Treasury bond space could be due for a bounceback on Thursday.
Disclosure I am long PLW shares and have been for quite some time.
Diversified Approach to Play Corporate Bond ETFs
As strength of a sustainable economic recovery continues to remain wary, unemployment remains high, and consumer demand grows at a snail’s pace, corporate bonds, and the exchange-traded funds (ETFs) that track them, could pose an opportunity for investors.
A notable play of the corporate bond market is the SPDR Barclays Capital International Corporate Bond ETF (IBND), which tracks the Barclays Capital Global Aggregate ex-USD > $1B: Corporate Bond Index, carries an expense ratio of 0.55%, and gives investors exposure to debt that's denominated in local currencies.
IBND focuses on investment-grade corporate bonds and gives exposure to the following currencies: Euro, Australian Dollar, Canadian Dollar, New Zealand Dollar, British Pound, Japanese Yen, Swiss Franc, Swedish Krona, and the Danish and Norwegian Krone. Although IBND excludes US Dollar-denominated bonds, it does include bonds issued by US companies, which are payable in other currencies. In fact, according to the fund’s prospectus, the US has the largest country weighting at 17.5%, followed by Germany at 16.1% and the United Kingdom at 12.5%.
In regards to sector weightings, IBND is heavily focused on financials, industrials, and utilities, which constitute 46.9%, 39.5%, and 11.6% of its asset base, respectively. Additionally, the underlying index that IBND seeks to track boasts a yield of 3.05%, which can be expected if IBND tracks its underlying index accurately.
Of the holdings in the newly traded ETF, all the bonds in the fund are rated Baa or higher, with nearly half of them carrying a rating of A or better. The average maturity for the bonds is 5.3 years with a modified duration of 4.4 years.
Another notable mention regarding the international bond market is that PowerShares has also filed the necessary paperwork to launch the International Corporate Bond Portfolio (PICB), which will seek to replicate the performance of the S&P International Corporate Bond Index and give exposure to international corporate bonds.
Another way to play corporate bonds is through the Vanguard Short-Term Corporate Bond Index Fund (VCSH). This ETF seeks to replicate the Barclays Capital US 1-5 Year Corporate Index, a benchmark that includes US dollar-denominated, investment-grade, fixed-rate, taxable securities issued by industrial, utility, and financial companies with maturities between one and five years
The majority of VCSH’s coupon rates lie between 4% and 6% and debt ratings of underlying holdings primarily lie between BBB and AA.
Although an opportunity may prevail in corporate bond ETFs, it's a good idea to have an exit strategy that helps mitigate the risks that they carry.
Disclosure I do not any of the above mentioned etfs I however have been watching IBND for a bit.
A notable play of the corporate bond market is the SPDR Barclays Capital International Corporate Bond ETF (IBND), which tracks the Barclays Capital Global Aggregate ex-USD > $1B: Corporate Bond Index, carries an expense ratio of 0.55%, and gives investors exposure to debt that's denominated in local currencies.
IBND focuses on investment-grade corporate bonds and gives exposure to the following currencies: Euro, Australian Dollar, Canadian Dollar, New Zealand Dollar, British Pound, Japanese Yen, Swiss Franc, Swedish Krona, and the Danish and Norwegian Krone. Although IBND excludes US Dollar-denominated bonds, it does include bonds issued by US companies, which are payable in other currencies. In fact, according to the fund’s prospectus, the US has the largest country weighting at 17.5%, followed by Germany at 16.1% and the United Kingdom at 12.5%.
In regards to sector weightings, IBND is heavily focused on financials, industrials, and utilities, which constitute 46.9%, 39.5%, and 11.6% of its asset base, respectively. Additionally, the underlying index that IBND seeks to track boasts a yield of 3.05%, which can be expected if IBND tracks its underlying index accurately.
Of the holdings in the newly traded ETF, all the bonds in the fund are rated Baa or higher, with nearly half of them carrying a rating of A or better. The average maturity for the bonds is 5.3 years with a modified duration of 4.4 years.
Another notable mention regarding the international bond market is that PowerShares has also filed the necessary paperwork to launch the International Corporate Bond Portfolio (PICB), which will seek to replicate the performance of the S&P International Corporate Bond Index and give exposure to international corporate bonds.
Another way to play corporate bonds is through the Vanguard Short-Term Corporate Bond Index Fund (VCSH). This ETF seeks to replicate the Barclays Capital US 1-5 Year Corporate Index, a benchmark that includes US dollar-denominated, investment-grade, fixed-rate, taxable securities issued by industrial, utility, and financial companies with maturities between one and five years
The majority of VCSH’s coupon rates lie between 4% and 6% and debt ratings of underlying holdings primarily lie between BBB and AA.
Although an opportunity may prevail in corporate bond ETFs, it's a good idea to have an exit strategy that helps mitigate the risks that they carry.
Disclosure I do not any of the above mentioned etfs I however have been watching IBND for a bit.
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