Summary
- The large number of ETFs has little to do with serving your best interests.
- Below are three red flags you can use to avoid the worst ETFs.
- The following presents the least and most expensive sector ETFs as well as the worst overall sector ETFs per our Q4'19 sector ratings.
- Looking for a portfolio of ideas like this one? Members of Value Investing 2.0 get exclusive access to our model portfolio. Get started today »
Question: Why are there so many ETFs?
Answer: ETF providers tend to make lots of money on each ETF so they create more products to sell.
The large number of ETFs has little to do with serving your best interests. We leverage our data to identify three red flags you can use to avoid the worst ETFs:
1. Inadequate Liquidity
This issue is the easiest to avoid, and our advice is simple. Avoid all ETFs with less than $100 million in assets. Low levels of liquidity can lead to a discrepancy between the price of the ETF and the underlying value of the securities it holds. Plus, low asset levels tend to mean lower volume in the ETF and larger bid-ask spreads.
2. High Fees
ETFs should be cheap, but not all of them are. The first step here is to know what is cheap and expensive.
To ensure you are paying average or below average fees, invest only in ETFs with total annual costs below 0.49%, which is the average total annual costs of the 260 U.S. equity Sector ETFs we cover. The weighted average is lower at 0.26%, which highlights how investors tend to put their money in ETFs with low fees.
Figure 1 shows Invesco KBW High Dividend Yield Financial ETF (KBWD) is the most expensive sector ETF and Schwab U.S. REIT ETF (SCHH) is the least expensive. Invesco (KBWD) provides one of the most expensive. Fidelity (FNCL, FSTA, FDIS) ETFs are among the cheapest.
Figure 1: 5 Most and Least Expensive Sector ETFs
Sources: New Constructs, LLC and company filings
Investors need not pay high fees for quality holdings.[1] Fidelity MSCI Consumer Staples Index ETF (FSTA) is the best ranked sector ETF in Figure 1. FSTA’s Neutral Portfolio Management rating and 0.09% total annual cost earns it a Very Attractive rating.[2] iShares MSCI Global Metals & Mining Producers ETF (PICK) is the best ranked sector ETF overall. PICK’s Attractive Portfolio Management rating and 0.43% total annual cost also earns it a Very Attractive rating.
On the other hand, Schwab U.S. REIT ETF (SCHH) holds poor stocks and earns our Unattractive rating, yet has low total annual costs of 0.08%. No matter how cheap an ETF, if it holds bad stocks, its performance will be bad. The quality of an ETF’s holdings matters more than its price.
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