Top 10 ETF List for Growth

Gauging Performance in Terms of

Risk and Cost as well as Returns

A Market Brief ™

by

Steven Kim

MintKit Investing

www.mintkit.com

© 2011 MintKit.com
 Short Summary

The top choice of exchange traded fund (ETF) depends on a variety of factors.
The main features include the return on investment, the degree of volatility, and
the cost of maintenance.

* * *

Extended Summary

In selecting an exchange traded fund (ETF) for growth in a global marketplace,

the first step is to compile a list of the top performers. For this purpose, the key
factors include the return on investment, the degree of volatility, and the cost of
maintenance.

On the whole, the crucial factors are interlinked rather than independent. As an
example, an exchange traded fund on the fast track to growth is prone to be
more volatile than a sluggish one which trudges along at a modest pace. Another
sample is the cost structure: an index fund with a hefty burden of maintenance
fees is likely to lag behind its rivals that have leaner structures.

In dealing with these issues, a straightforward tack is to begin with a roster of the
high flyers. Then the other factors such as risk and cost can be examined in
order to identify the best ETF for a particular portfolio.

* * *
Keywords:

ETF, exchange traded fund, index fund, top, list, growth, performance, risk, cost,
return on investment, volatility, risk-adjusted return, Sharpe Ratio, commodities,
silver, SLV, DBS

* * *

* * *

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In order to pick out a promising exchange traded fund (ETF) in an orderly way,
the first task of the investor is to compile a list of the top performers. For this
purpose, the crucial factors include the pace of capital gains, the level of price
volatility, and the burden of maintenance charges.

In certain cases, additional features may come to the fore. A case in point is the
yield due to the dividends thrown off by the ETF.

For the most part, the traits noted above are interlinked rather than independent.
As an example, an exchange traded fund on a growth streak is apt to be more
volatile than a sluggish one which plods along at a modest pace. Another sample
is the cost structure; whatever the performance in the past, an index fund with a
heavy load is more likely than not in the future to lag behind its rivals with leaner
structures.

In tackling these issues, a sensible step is to begin with a muster of the top 10
funds by way of growth. Then the other factors such as risk and cost can be
brought to bear on the evaluation.

Top 10 ETF List by Growth

In preparing a roster of the top candidates, an obvious point of departure is the

growth rate over the past several years. On a negative note, however, a lot of
exchange traded funds are relative newcomers to the financial forum.

For this reason, the sources of information available to the investor might provide
tallies of performance for only a few years into the past. A case in point is the
section on ETF securities at the Web site maintained by Morningstar
(morningstar.com).

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The table below displays the exchange traded funds at the forefront of growth. As
an example, the last row of the exhibit corresponds to an index fund called the
SPDR S&P Pharmaceuticals. The purpose of this ETF is to replicate the total
return – consisting of the capital gain plus the dividend yield – of the S&P
Pharmaceuticals Select Industry Index.

Fund Sector Gain

B2B Internet HOLDRs (BHH) Technology 39.12
PowerShares Dynamic Networking (PXQ) Technology 18.64
First Trust NYSE Arca Biotech Index (FBT) Health 18.33
iShares Silver Trust (SLV) Commodities Precious Metals 18.16
iShares MSCI Chile Investable Market (ECH) Latin America Stock 17.67
PowerShares DB Silver (DBS) Commodities Precious Metals 16.84
First Trust Dow Jones Internet Index (FDN) Technology 15.92
SPDR S&P Semiconductor (XSD) Technology 14.75
Rydex S&P Midcap 400 Pure Growth (RFG) Mid-Cap Growth 14.64
SPDR S&P Pharmaceuticals (XPH) Health 14.41

The fund trades in the U.S. under the ticker symbol of XPH. According to the
second entry in the same row, the vehicle deals with the health care segment of
the stock market. Based on the last cell, the fund enjoyed an average annual
gain of 14.41 percent over the course of 3 years ending in early 2011.

Clustering of Funds

The financial markets as well as the real economy have a way of advancing and
retreating in an endless series of waves. The same is true of smaller tracts within
the marketplace.

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On the other hand, the undulation is far from uniform across the panoply of
assets. Rather, certain segments of the market might swell while others shrink,
and vice versa.

From the table above, we can see that four of the funds belong to the technology
sector. Meanwhile, the health care segment boasts two pools.

A similar situation applies to the commodities sector as a whole, and the field of
precious metals in particular. To be precise, the latter category contains a couple
of contenders.

In addition, the market segment dealing with Latin America fields a single entrant.
Finally, the category of Mid-Cap Growth rounds up the roster with one candidate.

Quick Scan of the Top ETF List

In reviewing an asset, it’s always helpful to get some idea of the performance
under stormy as well as balmy conditions. A case in point is the behavior of a
fund in the midst of a crisis, including its turnout during the most recent crackup
of the stock market.

The chart below, courtesy of Yahoo Finance (finance.yahoo.com), presents the

relative movements of all 10 stocks from the preceding table. The diagram
covers a period of 5 years ending in early 2011.

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In the midst of this stretch, a watershed lay in the financial crisis that erupted in
the autumn of 2008. The impact of the fiasco is apparent in the middle portion of
the chart.

One of the stocks can be seen clearly as an abnormal case. The outlier lay in
BHH, a fund focused on Internet commerce. The pool suffered a big meltdown at
the end of 2007, even before the financial flap erupted the following year.

After the wipeout, BHH began to recover starting in early 2009. Following the
severe breakdown more than a year earlier, the fund was getting back on its feet
from a low base. Due to the paltry price of the stock, even a modest increase of a
few cents could result in a hefty rise on a relative basis.

Given this backdrop, it’s not surprising that BHH should clamber upward at a
decent pace in the subsequent years. The fund was merely recovering some of
the whopping losses it had suffered before and during 2008.

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On the other hand, BHH still has a long way to go on the road to recovery. At this
juncture, the price of the stock hovers around a single dollar.

As a rule of thumb, any equity priced under $5 per share is considered to be a

penny stock. Moreover, a lot of stocks with such lowish prices tend to be highly
volatile. For this reason, myriads of investors refuse to consider penny stocks as
serious candidates for long-term investment.

Worse yet, there is an even bigger problem with BHH. Although the fund
encompassed a larger batch of stocks in the past, all but two have fallen by the
wayside over time. In other words, the pool has come to comprise only a couple
of equities at this juncture.

In general, a basic appeal of an ETF is the coverage of numerous equities as a

way to spread out the risk of a big smackdown resulting from the wipeout of a
single security. If a fund contains only a couple of stocks, however, the level of
diversification is hardly worth talking about.

Given this backdrop, BHH suffers from the stigma of being a penny stock as well
as the risk entailed by a dearth of diversification. Due to these flaws, we will forgo
any further consideration of the vehicle here. In other words, we reject BHH at
this stage as a suitable candidate for investment.

Matchup of Risk and Return

We have already eliminated one of the funds from the original lineup of high
flyers. From this point onward, we will take a closer look at the remaining 9
entries in the foregoing table.

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PowerShares Dynamic Networking

The second security in the previous table is PXQ. The aim of this fund is to track
the Dynamic Networking Intellidex Index, a benchmark that covers several dozen
firms ranging from Qualcomm and Cisco to Symantec and Netgear.

For the sake of consistency in comparing the funds, we will rely for the most part
on the data provided by Yahoo Finance.

Toward the end of 2010, PXQ issued a small dividend of 10.733 cents per share.
Meanwhile, the current price floats in the vicinity of $26.16. The ratio of the latter
two figures is about 0.41%.

Suppose that this payout turns out be representative of the annual dividend in
future years. Moreover, we will assume that the average gain in price of 18.64%
per year seen over the past 3 years will continue to prevail going forward. Based
on the last two rates, the total return for the investor would come out to 19.05%
per annum.

The net expense for the pool happens to be 0.63% a year based on the current
value of the portfolio. In one sense, this figure is only of secondary import to the
investor. The reason is that the burden of maintenance fees would be baked into
the price of the fund on the open market.

On the other hand, the level of expenses is a measure of the efficiency of the
custodians. Other things being equal, a lean pool is likely to perform better over
time than a bloated one.

We turn now to the flightiness of the asset. A standard yardstick of volatility is

found in a factor called beta, which measures the average jitter of a security
compared to the market at large.

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Based on the behavior of PXQ over the past 3 years, the value of beta was 1.22.
From this figure, we can infer that the stock tends to swell by 1.22% whenever
the market at large rises by a single percent. In other words, the security is
somewhat more volatile than the market as a whole.

Another way to measure the flightiness of an asset is to determine how much the
return on investment varies over time. As an example, suppose that a stock
named Al enjoyed an average gain of 9 percent a year over the past decade,
with scant variation in performance from one period to the next.

By contrast, consider an equity named Bo which also managed to rise by 9

percent a year on average over the same time frame. On the other hand, the
returns for this asset varied widely from one year to the next.

In general, investors have a penchant for high growth just as they have a distaste
for high risk. In comparing Al and Bo, the duo turned in the same performance in
terms of the average rate of growth. Yet the risk for Al was lower. As a result, Al
would be chosen over Bo on the basis on risk-adjusted returns.

In gauging the dispersion of returns, the usual figure of merit is a yardstick known
to statistical wonks as the standard deviation. The latter feature is usually
denoted by the Greek letter sigma.

For this reason, we could refer to the standard deviation as the sigma factor. The
higher the value of sigma, the greater is the scatter of payoffs. In other words, the
risk due to turbulence turns out to be higher.

The standard deviation could be computed from the raw price of the stock in
terms of absolute dollars. Another way to approach the subject is to calculate the
return on investment from one period to the next, then figure out the standard
deviation of the sequence of relative payoffs.

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The latter scheme is the usual procedure adopted by the financial community. Its
advantage lies in the ease of comparing the flightiness amongst diverse assets.

As noted earlier, investors are fond of high returns at low risk. One way to
combine both these factors into a single yardstick is to divide the average gain by
the sigma factor. The latter quotient is known as the Sharpe ratio.

The Sharpe value is the usual measure used by financial jocks in gauging the
risk-adjusted return. As an example, suppose that the average return on a stock
called Cy happened to be 10% per year, while the sigma factor was 20%. In that
case, the Sharpe ratio would be to 10/20; or 0.5 in decimal form.

At this stage, we should note that the average dispersion can exceed the
average return since a stock can experience large drops into negative territory.
For instance, consider a stock named Di which rose by 50% during the first year,
then fell by 40% in the second year. Over the 2-year span, the security had an
average return of 10%; but the divergence of the payoffs was enormous.

Clearly, a high value for the Sharpe ratio is better for the investor than a lower
one. As a baseline for comparison, we invoke the corresponding figure for the
most common benchmark of the stock market used by professionals; namely, the
S&P 500 index. A fact sheet at Standard & Poor’s (standardandpoors.com)
indicates that the Sharpe ratio for the benchmark over the course of 3 years
ending in early 2011 was a mite under 0.33.

We turn now to the risk and return for the PXQ fund. For this pool, the Sharpe
ratio over the past 3 years was 0.46. The performance appears to be significantly
better than the turnout for the S&P 500 index.

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Rating the Rest of the ETF List

The remaining stocks from the table above can be scrutinized in a similar
fashion. For the sake of brevity, though, we will refrain here from going into every
little detail.

Rather, this portion of the article will present an overview of the feasible
candidates. In particular, the survey focuses on the range of values for the key
properties displayed by the ensemble.

For the muster of 9 funds, the annual charge for maintenance fees varied from
0.35 to 0.63 percent. At the low end of the range were the RFG and XSD pools.
The high end of the scale was anchored by PXQ.

The yield due to dividends varied from 0 to 0.91 percent. The funds offering no
payout at all were PXQ, FBT, SLV, DBS, and FDN. The most generous yield,
such as it was, came from ECH.

Meanwhile, the value of beta varied from 0.66 to 1.31. The low end of the span
was taken up by ECH and the high spot by XSD.

Finally, the risk-adjusted gain according to the Shape ratio ranged from 0.27 to
0.75. The laggard was XSD while the leader was DBS. Moreover, SLV deserved
an honorable mention with a rating of 0.74.

Index Funds and Raw Commodities

As we saw earlier, an ETF which covers only a couple of stocks is much too
narrow to be considered by the majority of investors. Stocks can and do break

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down for any number of reasons whether or not the firms standing behind the
securities happen to operate in thriving markets.

As an example, a fusty business might be trounced by an upstart rival armed with

a newfangled product. Meanwhile another hapless firm could succumb to an
accounting scandal, a class-action lawsuit, or some other type of mishap.

For these reasons, an index fund ought to cover a sizable selection of firms in
order to withstand the meltdown of any single stock without causing the pool as a
whole to collapse. In this context, a roster of perhaps 10 members might be
viewed as the minimal number needed for adequate protection against the
occasional crackup of the elemental securities.

By contrast, the commodity market is more resistant to a total wipeout. A case in

point is silver, whose price is determined by the matchup of supply and demand
in a global forum. In particular, the demand for silver stems from its use in a host
of products ranging from jewelry and ornamentation to utensils and
microelectronics.

Granted, the commodity market is subject to a raft of threats as well. An

exemplar is a global recession that craters the demand for silver.

On the other hand, the price of the white metal is unlikely to break down
completely and flop to zero anytime soon. And even if it did, the market is bound
to recover sooner or later.

Thanks to the hardy streak, a commodity can be far more robust than a security
issued by a lonesome company. For this reason, an index fund that tracks a
natural resource should not be rejected outright for the mere reason that it
happens to cover only a single commodity.

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There may be a slew of reasons why a particular fund in the commodity market
could be problematic. But the lack of diversification is not necessarily one of
them.

For some types of investors, a focused pool in the market for raw materials might
be a perfectly fitting choice. The decision could be especially apt if the security
were to complement the other holdings within a larger portfolio.

With that matter out of the way, we can get down to the business of comparing a
couple of similar funds in the foregoing table. As it happens, two of the pools
focus on the market for silver bullion.

Index Funds based on the Commodities and Futures Markets

In the case of the SLV fund, the pool holds a stockpile of silver bullion. By
contrast, the DBS vehicle tracks the same market by buying and selling contracts
for the white metal on the futures market.

For SLV, the net cost of maintenance came out to 0.50% on an annual basis.
The corresponding figure for DBS was 0.54%.

Neither fund gave off any dividends. Moreover, the value of beta for SLV was
0.89 while that for DBS was 0.92.

The foregoing statistics from Yahoo came from a database spanning a period of
3 years ending in late 2010. Judging from the results, DBS was slightly more
turbulent than SLV over this period.

From a different angle, the Sharpe ratio for SLV turned out to be 0.74 while that
for DBS was 0.75. Apparently, the latter pool enjoyed a slim advantage in terms
of risk-adjusted gains.

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Another slant on the subject is provided by a research outfit named the
RiskMetrics Group (riskmetrics.com). The market watcher gives more weight to
newer observations over older ones.

In other words, the behavior of an asset in the recent past counts more than the
action that went before. The resulting statistics are published at a site called
RiskGrades (riskgrades.com).

The basic trait tracked by the agency is the return on investment from one day to
the next. In the next step, the average value of the payoff is calculated while
giving a bit more weight to the observation for a particular day compared to the
average level obtained from the previous day of trading.

At the next stage, the value of sigma for the target asset is divided by the
corresponding figure for a basket of equities traded on a number of stock
markets round the world. Finally, the resulting quotient is multiplied by 100 in
order to express the outcome as a percentage rather than a fraction.

Put another way, the RiskGrade for a basket of global equities is defined to be
100 units. Moreover, the level of risk for a given asset is presented as a
percentage of the reference value.

For a simple example, consider a fund named Fay whose RiskGrade happens to
be 150. The latter figure indicates that the pool is 50 percent more flighty than a
representative basket of global equities.

Over the course of 3 years ending in early 2011, the average level of risk for SLV
was 191. At the end of the stretch, the value of the yardstick came out to 162.

By contrast, the mean level for DBS over the 3-year stretch was 197. Meanwhile,
the latest figure stood at 163.

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From the foregoing batch of statistics, SLV appears to be a wee bit less volatile
than DBS. Moreover, the performance figures in the previous table show that
SLV grew a tad more quickly as well.

In view of these results, we can conclude that SLV enjoyed a slight edge over
DBS based on the RiskGrade yardstick. One reason for the small gap in
performance for the two funds doubtless lay in the distinction between the
commodity market and the futures market. According to the statistics, the latter
market appeared to be slightly more volatile.

To be precise, the price of each fund was of course determined by the behavior
of the investors in the stock market. For this reason, we could be a bit more
accurate and say that the difference in performance for SLV and DBS stemmed
from the mindset of the participants in the equity market regarding the prospects
for the raw commodity versus the outlook for the futures market.

Whatever the cause of the discrepancy, the differences between the two funds
were paltry. And that was just as well.

In fact, a sizable gap would have been a cause for concern. After all, from the
standpoint of the investor, the ultimate function of both vehicles is to keep up with
the market for silver bullion.

Winning Traits

The top 10 funds based on growth featured a medley of traits in terms of risk and
cost. Based on the data over a 3-year stretch, the best candidate in each
category was as follows.

· Top Growth: 18.64% a year on average for PXQ

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 · Least Risk (Beta): 0.66 for ECH
· Least Cost: 0.35% a year for XSD and RFG
· Best Risk-Adjusted Returns (Sharpe): 0.74 or better for SLV and DBS

To sum up, the best performers on a risk-adjusted basis were SLV and DBS. Or
we could just say that the winner of the beauty pageant was silver bullion.

Tailored Choice

The procedure presented above can serve as the groundwork for selecting the
best fund for a personal portfolio. One important issue that lies beyond the
purview of this article is the need for each investor to assess every candidate in
light of personal circumstances.

A prime example lies in the tolerance for risk. Another factor is the way in which a
pool complements the other assets within a larger portfolio.

Given this backdrop, the best choice of ETF for one person could well be a lousy
pick for someone else. For instance, a particular investor might decide that a high
rate of growth is not worth the big headache caused by the violent thrashing of
prices.

Moreover, the serious investor consults several sources of information in order to

obtain a sound and rounded view of the choices under consideration. A case in
point is a confirmation of the past statistics as well as the current status of an
ETF. Another sample is the long-range outlook for the target market tracked by
an index fund.

Whatever the final decision, though, a list of the top 10 performers is a good
place to begin the quest for a winning ETF.

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