Best Of 2016: 5 ETFs With Highest Single Stock Risk

[Editor's Note: We are rerunning some of our best stories of the year.]

Exchange-traded funds are a great tool for building portfolios. With the click of a button, investors can get access to thousands of stocks across multiple geographies in a single ETF.

Take the Vanguard Total World Stock Index Fund (VT), the most diversified equity ETF on the market. With 7,495 holdings, it targets virtually every investable region in the world.

The Vanguard Total International Stock ETF (VXUS), the iShares Core S&P Total U.S. Stock Market ETF (ITOT), the Vanguard Total Stock Market Index Fund (VTI) and the Vanguard FTSE Developed Markets ETF (VEA) are also extremely diversified, each holding more than 3,600 stocks.

Most advocates of passive investing would argue that you can't go wrong with any of these ETFs. After all, diversification is the only free lunch when it comes to investing, and you can't get much more diversified than these funds.

5 Most Diversified Equity ETFs

That said, not all ETFs are diversified. In fact, there are plenty of funds that hold only a single asset―mostly commodity ETFs―such as the physically backed SPDR Gold Trust (GLD), and the United States Oil Fund (USO) which holds the near-month Nymex futures contract.

That, of course, doesn't make them bad products. Combined with other ETFs, they can be good components of a larger portfolio, depending on what kind of exposure an investor is looking for. They can also be good speculative tools for short-term traders who aren't interested in investing for the long haul at all.

Concentrated Equity ETFs

The same goes for equity exchange-traded funds with few holdings. While there aren't any single-stock ETFs (what would be the point of that?), there are many with less than two dozen holdings.

Again, these funds may be perfectly reasonable additions to a larger investment portfolio, in which case, their lack of diversification doesn't matter.

On the other hand, aggressive traders may use these ETFs for concentrated exposure to a particular segment of the stock market. That's fine too―but anyone buying such a fund should know what they're getting themselves into.

The number of holdings for any ETF can be found on its ETF.com fund report page, e.g., "www.ETF.com/SPY." Below are the five most-concentrated equity ETFs available today:

PowerShares S&P SmallCap Consumer Staples Portfolio (PSCC)

The PowerShares S&P SmallCap Consumer Staples Portfolio (PSCC) tracks a market-cap-weighted basket of consumer staples stocks selected from the S&P SmallCap 600. With a mere 15 holdings, PSCC is the ETF with the greatest single-stock risk of all. To put things in perspective, PSCC's top five holdings make up more than half the weighting in the fund.

Investors in the fund aren't complaining this year, though. PSCC is up 22.9% year-to-date, handily outperforming the 11% gain for the broader S&P SmallCap 600 Index.

Global X YieldCo Index ETF (YLCO)

The Global X YieldCo Index ETF (YLCO) holds a basket of 20 YieldCos, primarily stocks of renewable energy companies that have been spun off from larger parent companies. YieldCos typically generate cash flows from long-term energy contracts and distribute much of their earnings to investors.

YLCO currently has a 30-day SEC yield of 6.86% and has gained 10.5% on a total return basis so far this year.

Global X Gold Explorers ETF (GLDX)

Another ETF from Global X, the Global X Gold Explorers ETF (GLDX), also holds a concentrated basket of 20 stocks. GLDX's portfolio is focused on gold explorers, which are small- and micro-cap companies involved in high-risk/high-reward gold prospecting.

With prices for gold up sharply this year, GLDX has not surprisingly done well, with a gain of 162.6% year-to-date.

Deep Value ETF (DVP)

The Deep Value ETF (DVP) uses a number of screens to find 20 undervalued dividend-paying stocks from the S&P 500. The rules-based index that DVP tracks takes into account balance sheets, earnings and free cash flow, among other metrics.

This year, the strategy has worked, fueling DVP to a 14.2% gain, better than the 7.3% return for the S&P 500.

iShares Transportation Average ETF (IYT)

The iShares Transportation Average ETF (IYT) tracks the Dow Jones Transportation Average Index. Like the famous Dow Jones industrial average, the transportation index is also price-weighted.

That gives high-priced stocks a greater weighting in IYT, and low-priced stocks a lesser weighting in the fund regardless of their market caps. Currently, FedEx, trading at $161/share, is the largest component of IYT, while JetBlue, trading at $18.50/share, is the smallest component.

In total, IYT holds 20 stocks and is up 6.9% so far this year.

Contact Sumit Roy at [email protected]