No one likes being mislead, but it does happen occasionally to ETF investors.
That is not to say fund issuers are maliciously misleading investors. However, a few minutes (literally less than five minutes) of homework before buying an ETF can help investors avoid surprises.
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Take the example of the SPDR S&P Homebuilders ETF (NYSE:XHB). Investors see "homebuilders" in the name and expect XHB to be heavy on, well, shares of homebuilders. In reality, there is not a single homebuilder among XHB's current top-10 holdings. The ETF does, however, offer significant exposure to home goods and durables makers and retailers such as Williams-Sonoma (NYSE:WSM) and Whirlpool (NYSE:WHR).
Investors wanting deeper exposure to homebuilders should opt for the iShares U.S. Home Construction ETF (NYSE:ITB), but the XHB example is not the only one where investors should do some digging beyond merely looking at a fund's name. Consider the following.
IndexIQ Merger Arbitrage ETF (NYSE:MNA) The problem with the IndexIQ Merger Arbitrage ETF is not really its name because this ETF does exactly what its name implies. That is track an index that "seeks to achieve capital appreciation by investing in global companies for which there has been a public announcement of a takeover by an acquirer," according to the issuer.
What investors should focus on is "Arbitrage" in MNA's name and "public announcement" in the description because the ETF does not shares of companies that are rumored takeover targets. Current top holdings such as Dell (NASDAQ:DELL) and Smithfield Foods (NYSE:SFD) have something in common: A takeover has already been announced. MNA is up 5.8 percent year-to-date.
First Trust US IPO Index Fund (NYSE:FPX) Helped by Facebook's (NASDAQ:FB) resurgence and subsequent move past its $38 IPO price, FPX is suddenly the toast of the town. There is always room on a bandwagon, but the bandwagon left the station in January not July.
A few things about FPX should be emphasized. Facebook is not the only stock contributing to the ETF's upside, though it is 10.3 percent of the fund's weight. Second, FPX is trading near all-time highs, but has the look of an ETF that can keep building on those gains.
Related: These All-Time ETFs Can Keep Going.
Perhaps most importantly is the fact that FPX not a play on IPO market activity and implying as much, as some have done, is simply inaccurate. Perfect example: FPX gained almost 29 percent in 2012, which was arguably just a mediocre year in terms of IPOs coming to market.
It should also be noted that FPX can hold companies for up 1,000 days following their debuts as public company. Of the ETF's top-10 holdings, a group that represents half of the fund's weight, only AbbVie (NYSE:ABBV) started trading this year.
And the example of AbbVie brings up another important point about FPX: The ETF is loaded with spin-offs and companies that were previously public and taken private by private equity firms only to go public again. And it is hard to consider General Motors (NYSE:GM), FPX's third-largest holding "new."
None of this is to say FPX is a bad ETF. It is not. Frankly, FPX is a great ETF, which is confirmed by the fact that the fund has doubled since its debut seven years ago. However, FPX is not a play on IPO market activity and investors should not expect last week's IPOs to be included in the ETF this week.
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