AROUND THE WORLD OF ETFS

December 12, 2007

Small-Cap Emerging Markets

With investors searching high and low for noncorrelated assets, the new WisdomTree Emerging Markets SmallCap Dividend ETF (DGS) is attracting a lot of attention.

Launched this fall, DGS is the first small-cap emerging markets ETF. Investors upset with the growing correlation between international and domestic (U.S.) large-cap companies are turning toward international small-caps on the theory that those companies should be more closely tied to local economies. That should be even more the case in emerging markets.

The WisdomTree Emerging Markets SmallCap Dividend Index has 363 components drawn from 14 countries and a total market capitalization of $550 billion, meaning the average component market capitalization is $1.5 billion.

The ETF has an annual expense ratio of 0.63 percent.

Vanguard Goes MegaCap
Vanguard submitted a filing to the SEC in September for three “mega-cap” index funds, designed to track the MSCI U.S. Large-Cap 300 Index (which covers the 300 largest stocks in the investable U.S. market) and its growth and value subindexes.

The fund provider already offers a fund called the Vanguard Large-Cap Index Fund, but that is really a large/mid-blend fund; it includes both the Large-Cap 300 and the Mid-Cap 450 indexes. Vanguard separately offers a fund tied to the MSCI U.S. Mid-Cap 450 Index, as well as the distinct MSCI U.S. Small-Cap 1750 Index. With the addition of the mega-cap funds, investors will have an entire suite of nonoverlapping large-, mid- and small-cap funds, as well as growth and value subsegments, to use for asset allocation purposes.

The new funds will be available as ETFs and as Institutional and Investor shares. The Investor shares will have the highest expense ratio at 0.20 percent, followed by the ETF shares at 0.13 percent. The Institutional shares, not surprisingly, will have the lowest expense ratio, at 0.08 percent.

ProShares Goes International
In a well-timed move, ProShares has gone international, launching six new ETFs that could help investors hedge against a downturn in global markets. The new funds are ProShares’ first international funds, and come in two flavors: Short and UltraShort. The “Short” ETFs deliver the inverse of the daily return of the underlying index, while the “UltraShort” ETFs offer 200 percent of the inverse returns of the underlying index.

The funds are:

  • Short (EFZ) and UltraShort (EFU) MSCI EAFE
  • Short (EUM) and UltraShort (EEV) MSCI Emerging Markets
  • UltraShort MSCI Japan (EWV)
  • UltraShort FTSE/Xinhua China 25 (FXP)

As with all ProShares ETFs, the funds carry an expense ratio of 0.95 percent.

ProShares Plans Commodities, Currency ETFs
Meanwhile, the company is looking to extend its empire to commodities and currencies. The company recently filed papers with the SEC for the right to launch 48 new ETFs tied to those alternative asset markets.

The commodity funds will be linked to the Dow Jones-AIG Commodity Index and related subindexes, and will look to provide 200%, -100% and -200% of the daily return of those indexes. In the currency market, ProShares has targeted the euro, Australian dollar, British pound, Canadian dollar, Japanese yen, Mexican peso, Swedish krona and Swiss franc with a similar slate of leveraged, inverse and inverse-leveraged funds.

iPaths Get Daily Redemption
In October, Barclays Bank changed the policy on its iPath ETNs to allow daily redemptions at net asset value (NAV), rather than weekly, as was originally the case. The move to daily redemption is an important one because it shortens the window of credit exposure for large investors; it also improves transparency and liquidity. Now, an investor holding 50,000 shares of an ETN is guaranteed daily liquidity at NAV. The daily liquidity should also help arbitrageurs keep the ETNs closely priced to their NAV on an intraday basis. The move brings the iPaths ETNs’ features closer into line with those of ETFs, which can also be redeemed daily.

iPaths Add More Commodities
The iPath family of ETNs literally doubled overnight this fall, as Barclays Bank launched eight new ETNs on October

4 on the NYSE Arca exchange. The iPaths already included eight ETNs, holding approximately $3.6 billion in assets.

The new ETNs are linked to eight subindexes of the Dow Jones-AIG Commodity Index, covering the Agriculture (JJA), Copper (JJC), Grains (JJG), Energy (JJE), Industrial Metals (JJM), Livestock (COW), Natural Gas (GAZ) and Nickel (JJN) markets.

The bulk ($2.3 billion) of the existing iPaths assets are located in the broad-based iPath Dow Jones-AIG Commodity Index Total Return ETN (NYSE: DJP).

The notes each carry an annual investor fee of 0.75 percent and have a 30-year maturity.

New “Old” CRB ETF
Greenhaven Commodity Services has filed papers with the SEC for the right to launch an ETF tied to an old iteration of the popular CRB Commodity Index. The Atlanta-based firm said it would launch the ETF on the American Stock Exchange (Amex), charging 0.85 percent in annual fees.

The CRB was the first and is still one of the best-known commodity indexes. The fund will track the CRB Index as it existed prior to a 2005 reformulation, when the benchmark was rebranded the Reuters/Jefferies CRB Index and underwent a major design overhaul. Prior to the overhaul, the CRB was an equally weighted index of 17 commodities. During the 2005 rebranding, the CRB adopted a new methodology that more closely mimics the S&P GSCI and DJAIG commodity indexes.

XShares Launches Lifecycle ETFs
In one of the more interesting ETF launches to hit the market of late, XShares launched the first-ever family of lifecycle ETFs in October in partnership with TD Ameritrade. The new TDAX Independence ETFs are also the first ETFs to combine stocks and bonds in the same portfolio.

The funds hold a portfolio of stocks and fixed-income securities designed to track the Zacks Lifecycle Indexes. Four of the five funds have target dates set at 10-year intervals for the years 2010 (TDD), 2020 (TDH), 2030 (TDN) and 2040 (TDV). The fifth fund is the “in target” fund (TDX), which means its target date is set at inception. All of the funds trade on the NYSE Arca and carry an expense ratio of 0.65 percent.

Chinese Real Estate
China is hot, and real estate is hot: Put them together and you have an ETF filing that is catching some buzz.

Claymore filed papers with the SEC for the Claymore/Alphashares China Real Estate ETF, which will invest in Chinese companies that derive the bulk of their revenues from real estate development and property management in China, Hong Kong and Macau. The fund will hold both ADRs and local shares (Hong Kong H Shares and China B and N shares). The underlying index is a free-float adjusted modified market cap index, with a 5 percent cap on component weights.

The index also has a minimum component-weighting requirement of 0.35 percent, and a minimum market-cap requirement of $250 million. These requirements are a two-sided coin in a market like China. Potential investors may feel that smaller, potentially high-growth companies—and the returns they could contribute to the index—are being excluded. Others might see the exclusion of small, illiquid shares as a way to cut down on expenses, figuring that these smaller companies would likely not make a meaningful contribution to the index’s performance anyway.

MarketGrader ETFs Debut
SPA International has launched ETFs based on six indexes from MarketGrader.com. The fund launches took place on both sides of the Atlantic, with listings on both the Amex and the London Stock Exchange. The funds track the MarketGrader 40, MarketGrader 100, MarketGrader 200, MarketGrader Small Cap, MarketGrader Mid Cap and Market Grader Large Cap indexes.

MarketGrader.com is a U.S.-based research firm that grades stocks on a scale of 0 to 100 based on 24 quantitative indicators, roughly divided into four buckets: growth, value, profitability and cash flow. Each index is equal-weighted and selects the companies with the best scores that meet certain sector and market capitalization requirements. The SPA ETFs charge 0.85 percent in expenses.

The key difference between these and other fundamentally weighted ETFs is that the MarketGrader products are very focused, almost acting like actively managed portfolios.

The flagship MarketGrader 40 rebalances quarterly and has significant portfolio turnover, although it has delivered strong results since inception in 2003.

PowerShares International
Four new PowerShares FTSE RAFI ETFs began trading on the Amex in late September, along with a new international private equity ETF.

Three of the FTSE RAFI funds cover the small/midsize market segments of global regions. They include the PowerShares FTSE RAFI Asia-Pacific Ex-Japan Small-Mid Portfolio (PDQ), the PowerShares FTSE RAFI Developed Markets ex-U.S. Small-Mid Portfolio (PDN) and the PowerShares FTSE RAFI Europe Small-Mid Portfolio (PWD). The three funds complement existing PowerShares ETFs covering the large-cap segments of those same markets. PWD and PDN have expense ratios of 0.75 percent, while PDQ’s expense ratio is 0.80 percent. Options contracts will be available for all three funds.

The fourth FTSE RAFI-based ETF is the PowerShares FTSE RAFI Emerging Markets Portfolio (PXH), which tracks the largest stocks in the emerging markets region. It has an expense ratio of 0.85 percent.

Meanwhile, the PowerShares International Listed Private Equity Portfolio (PFP) will track the Red Rocks International Listed Private Equity Index. The fund has an expense ratio of 0.75 percent. Private equity has fallen off the investing map recently, but history suggests it will have its day in the sun again.

PowerShares Fixed-Income ETFs
In addition to the muni bond ETFs mentioned earlier, PowerShares launched two additional fixed-income ETFs in early October.

The PowerShares 1-30 Laddered Treasury Portfolio (PLW) is the first Treasury ETF to use a laddering strategy. It has an expense ratio of 0.25 percent.

The PowerShares Emerging Markets Sovereign Debt Portfolio (PCY) is the first ETF to focus exclusively on emerging market sovereign debt. Its expense ratio is 0.50 percent.

International Treasury ETF
SSgA’s new SPDR Lehman International Treasury Bond ETF (BWX) is the first-ever international bond ETF. The fund began trading on the Amex in early October and is based on the Lehman Brothers Global Treasury Ex-US Capped Index, which tracks fixed-rate sovereign debt denominated in local currency. The index covers 18 investment-grade countries and includes more than 670 issues, although the ETF only holds about 62 in its optimized portfolio. The fund charges 0.50 percent in annual expenses.

Claymore’s Dividend Rotation ETF
A new ETF from Claymore Securities tracks the Zacks Dividend Rotation Index, a domestic index designed to maximize dividend income at the lowest possible tax rate. The index’s 100 components are divided into two subindexes of 50 components, weighted by yield and liquidity, which are rebalanced monthly on an alternating basis to maximize the broad index’s dividend income. Eligible stocks are evaluated using a quantitative method designed by Zacks to select those with the greatest yield potential.

The Claymore/Zacks Dividend Rotation ETF began trading in late October under the symbol IRO. It trades on the Amex and carries an expense ratio of 0.60 percent.

Adelante!
In early October, XShares Advisors launched the Adelante Shares Real Estate ETFs on the NYSE Arca exchange. The seven new funds are the first real estate ETFs to be based on equal-weighted indexes. Each ETF tracks a different section of the real estate market.

The funds include the Adelante Shares RE Classics ETF (ACK), the Adelante Shares RE Kings ETF (AKB), the Adelante Shares RE Shelter ETF (AQS), the Adelante Shares RE Yield Plus ETF (ATY), the Adelante Shares RE Growth ETF (AGV), the Adelante Shares RE Value ETF (AVU) and the Adelante Shares RE Composite ETF (ACB). Each has an expense ratio of 0.58 percent.

Wide Moat ETN
Deutsche Bank ushered a new ETN to market in October. The ELEMENTS Wide Moat Focus ETN (WMW) tracks the Morningstar Wide Moat Focus Total Return Index and trades on the NYSE Arca platform.

The index was launched in April and was inspired by a phrase from Warren Buffett, who used the term “wide moat” to describe companies with sustainable competitive advantages. Morningstar’s methodology identifies about 10 percent of the companies in its broad U.S. index as “wide moat” companies. The Morningstar Wide Moat Focus Total Return Index selects 20 of these companies with the best Morningstar price/fair value ratios, a measure that compares the differential between a company’s trading price and its “fair value” based on a discounted cash flow model.

WMW has an annual expense ratio of 0.75 percent.

WisdomTree Launches 401(k) Platform
WisdomTree announced the launch of a new 401(k) platform in October, making it perhaps the only ETF company offering its own platform allowing investors to put their retirement dollars into ETFs.

The open-architecture platform features 11 funds from WisdomTree’s own family of ETFs, as well as select fixed-income ETFs from iShares and Vanguard. A few open-end, no-load, actively managed mutual funds are also included in the offerings.

ETFs have been slow to take off in the 401(k) market for a number of reasons, mainly related to costs and record-keeping. For smaller plans that lack economies of scale, however, the cost advantages of ETFs may overweight these concerns, which can be mitigated through omnibus trades and software solutions.

WisdomTree is targeting 401(k) plans with less than $50 million in assets. Its “Model Plan” allows investors their choice of six predetermined plans designed to meet different desired risk levels or retirement dates. The firm says that fees for its plans can be as low as 65 to 70 basis points (0.65 percent to 0.75 percent) per year, including everything except the advisor’s fee.

New Commodities ETFs Debut In Europe
ETF Securities’ latest group of “exchange-traded commodities” began trading on the London Stock Exchange (LSE) in October. The new ETFs track “three-month-forward” versions of the Dow Jones-AIG Commodity Indexes. As the name suggests, these funds invest in futures contracts dated out three months; i.e., the fund buys the March oil contract today rather than the January. The strategy is designed to mitigate the impact of “contango.”

There are nine new funds: one tracking the broad-based DJ-AIG and eight tracking the Agriculture, Energy, Ex-Energy, Grains, Industrial Metals, Livestock, Petroleum and Softs subindexes.

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