More pearls of wisdom from this week's U.S. News Invested.
6 Smart ETFs for Low-Risk Investors
For many years, a passively managed portfolio of low-cost stock and bond exchange-traded funds, or ETFs, worked perfectly. As interest rates stayed at perpetually low levels, investors were able to rely on their bond ETFs as ballast when the stock market crashed. This all changed in 2022, when the Federal Reserve's aggressive campaign of rate hikes sent bonds tumbling, marking the worst year ever for U.S. bond investors.
As a result, actively managed ETFs sporting more complex strategies have made a comeback. Some of these ETFs use derivatives to mitigate risk, while others target different equity factors like low volatility. While these ETFs are ultimately more expensive than simpler, more passive funds, some investors may find it worthwhile to pay for the increased peace of mind.
Low-risk investors looking for alternatives to shore up their portfolio can consider these six smart ETFs:
Simplify U.S. Equity PLUS Downside Convexity ETF (SPD). A top ETF that returned more than 17% in 2022 was a unique managed futures ETF called DBMF. This ETF can be thought of as a hedge fund in ETF form. DBMF essentially reverse engineers the holdings behind the SG CTA Index, which tracks the performance of the top 20 commodity trading advisors and hedge funds. The ETF uses a variety of futures contracts to take long or short positions in equities, fixed income, currencies and commodities. DBMF's unique replicator approach helps reduce manager-specific risk, as the ETF tries to mimic what the top hedge funds are doing at a given time. DBMF charges a 0.85% expense ratio, which is expensive compared to most ETFs but substantially lower than the usual "2% and 20%" fee structure charged by hedge funds.
KFA Mount Lucas Index Strategy ETF (KMLM). A great S&P 500 replacement for risk-averse investors is SPD, which combines the famed benchmark index with a protective options overlay. SPD starts by holding most of its capital in a regular S&P 500 ETF. Then, the remaining capital is invested in a ladder of out-of-the-money, or OTM, put options. If the markets crash, the OTM puts will soar in value, hedging against the overall losses of the ETF. In addition, the OTM puts are selected for convexity, meaning the bigger the crash, the greater the payout. In bull markets, SPD is expected to lag a normal S&P 500 ETF because the OTM puts expire and cost money to repurchase. However, its downside risk is also less, making it good for investors who care about a steadier sequence of returns. SPD charges a 0.28% expense ratio.
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Low-risk investors looking for alternatives to shore up their portfolio can consider these six smart ETFs:
Simplify U.S. Equity PLUS Downside Convexity ETF (SPD). A top ETF that returned more than 17% in 2022 was a unique managed futures ETF called DBMF. This ETF can be thought of as a hedge fund in ETF form. DBMF essentially reverse engineers the holdings behind the SG CTA Index, which tracks the performance of the top 20 commodity trading advisors and hedge funds. The ETF uses a variety of futures contracts to take long or short positions in equities, fixed income, currencies and commodities. DBMF's unique replicator approach helps reduce manager-specific risk, as the ETF tries to mimic what the top hedge funds are doing at a given time. DBMF charges a 0.85% expense ratio, which is expensive compared to most ETFs but substantially lower than the usual "2% and 20%" fee structure charged by hedge funds.
KFA Mount Lucas Index Strategy ETF (KMLM). A great S&P 500 replacement for risk-averse investors is SPD, which combines the famed benchmark index with a protective options overlay. SPD starts by holding most of its capital in a regular S&P 500 ETF. Then, the remaining capital is invested in a ladder of out-of-the-money, or OTM, put options. If the markets crash, the OTM puts will soar in value, hedging against the overall losses of the ETF. In addition, the OTM puts are selected for convexity, meaning the bigger the crash, the greater the payout. In bull markets, SPD is expected to lag a normal S&P 500 ETF because the OTM puts expire and cost money to repurchase. However, its downside risk is also less, making it good for investors who care about a steadier sequence of returns. SPD charges a 0.28% expense ratio.
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