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Sort the list by 52-week return. Usually, a few ETFs stand out from the rest by that measure. Check the top performers' 13-week returns and verify that each ETF's recent performance is still near the top of the category. The surviving ETFs are your final candidates. Here's how to evaluate them.
Minimize risk
Successful investing is more about avoiding big losses than capturing huge gains. Here's why. Say you buy a stock at $100 per share and it drops to $50, a 50% loss. What does it take to get back to even? Starting with $50, a 50% gain only brings you up to $75. Your $50 investment would have to double to get back to $100.Thus, minimizing risk should be priority No. 1. Standard deviation, which is listed in the Volatility section of the Snapshot report, is a risk measure. It tracks a fund's historical volatility over the past 12 months. The higher the volatility, the riskier the fund. Standard deviations below 10 signal low risk funds, and values above 20 equate to high risk.
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When it comes to risk, lower is always better. Risk-averse investors should stick with standard deviations below 10, and all investors should avoid funds above 20.
Sharpe ratio
Within those boundaries, higher volatility is acceptable if the potential rewards are also proportionally higher. The Sharpe Ratio is a risk-versus-reward measure. In essence, it compares a fund's historical returns to its volatility.The higher the ratio, the higher the potential reward per unit of risk. You can see the Sharpe Ratio based on a fund's last three years' performance below the Standard Deviation on the Snapshot report. Avoid funds with ratios below 1.5, and higher is better.
Concentrated portfolios
ETFs that achieve big returns while holding only a relatively small number of stocks are vulnerable to equally big losses should market conditions change. Such funds are inherently riskier than broader-based funds. MSN's Top Holdings report shows the percentage of a fund's portfolio accounted for by its 10 biggest holdings.While there's no hard and fast rule, in a well-diversified fund the top 10 holdings shouldn't account for more than 50% of its total portfolio.
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What's an ETF?Exchange-traded funds offer new ways to invest and diversify, but not without some potential negatives.
Single-country risk
When you look at the returns, you'll see that funds focusing on a single country typically produce higher returns than more diversified funds, but also show higher standard deviations. Thus, think twice before picking single-country funds.Here's the list of ETFs that I came up with based on the one-year and 13-week return criteria. ETF names tend to be long, so I shortened them to make them fit. MSN's Snapshot report has a complete description.
The table also shows the standard deviation, Sharpe Ratio and percentage of the fund's portfolio accounted for by its Top 10 holdings. To put recent performance in perspective, I've also included the trailing three-year average annual returns. I used the return figures listed by the Performance Tracker.
| ETF | 13 weeks | 1 year | 3 years | 1-yr standard deviation | 3-yr Sharpe | Top 10% of total | ||
|---|---|---|---|---|---|---|---|---|
Pacific - Diversified | ||||||||
15.6 | 40.2 | 31.1 | 11.6 | 2.0 | 33 | |||
Pacific - Single Country | ||||||||
15.1 | 42.6 | 33.9 | 12.7 | 2.0 | 49 | |||
23.6 | 62.7 | 27.9 | 15.5 | 1.4 | 53 | |||
20.0 | 63.1 | 35.7 | 14.7 | 2.2 | 70 | |||
Foreign Stock - Latin America - Single Country | ||||||||
34.7 | 62.3 | 67.0 | 25.4 | 1.7 | 68 | |||
27.9 | 74.0 | 51.6 | 18.5 | 2.0 | 77 | |||
Foreign Stock - Latin America - Diversified | ||||||||
31.7 | 63.8 | 59.2 | 20.4 | 2.0 | 63 | |||
Europe - Diversified | ||||||||
14.5 | 32.2 | 24.5 | 8.4 | 2.0 | 18 | |||
14.3 | 32.3 | 8.2 | 17 | |||||
17.2 | 34.0 | 25.7 | 9.4 | 1.8 | 35 | |||
17.2 | 37.6 | 28.0 | 9.3 | 1.9 | 22 | |||
Europe - Single Country | ||||||||
19.4 | 44.7 | 31.9 | 17.6 | 1.6 | 63 | |||
13.1 | 45.7 | 32.1 | 9.0 | 2.0 | 77 | |||
22.9 | 45.8 | 30.9 | 12.0 | 1.7 | 63 | |||
Emerging Markets | ||||||||
19.4 | 38.0 | 36.6 | 16.9 | 1.5 | 26 | |||
19.5 | 38.5 | 15.9 | 19 | |||||
20.8 | 46.2 | 39.9 | 16.8 | 1.6 | 43 | |||
Emerging Mkts - China | ||||||||
18.5 | 56.8 | 23.6 | 60 | |||||
18.7 | 49.0 | 18.2 | 49 | |||||
I've included all of the funds that qualified based on my return requirements, even if they flunk the additional tests. Consider diversifying your selections across different regions to reduce your risk of being hit by a calamity affecting a single country.
At the time of publication, Harry Domash did not own or control any of the funds mentioned in this article. But he planned to change that situation ASAP.
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