Surveying the ETF Landscape for Bargains

Following is a quick synopsis of goings-on in the exchange-traded fund industry, including our big-picture view of the ETF landscape, a rundown of recent ETF analyses, feature articles, and blog postings, as well as links to ETFs that recently launched.

30,000 Foot View
It's been about a month since we last checked in on ETF valuations. What has happened over that span? Well, the Dow has advanced nearly 700 points, or about 5.6%, while the S&P has risen 70-plus points, and the Russell 181 points. The rally hasn't been confined to the U.S., as MSCI EAFE and MSCI Emerging Markets have notched double-digit returns over the past four weeks or so.

Our ETF valuations tell the tale. Whereas Diamonds Trust, which tracks the Dow, was about 20% undervalued, in our estimation, in mid-March, it was recently trading at a less hefty 14% discount to our fair value estimate. The same story holds for  SPDRs Trust  (SPY) (about 17% undervalued a month ago versus 13% undervalued as of April 21) and  BLDRS Emerging Markets  (8% discount one month ago versus 6% discount as of April 21).

That said, there are still plenty of bargains to be had in our opinion. To put ETF valuations in perspective, we'd normally be buyers of a diversified ETF like SPDRs or  iShares Russell 1000 (IWB) when it's trading at an 8% or greater discount to our fair value estimate. By that standard, the S&P 500, Russell 1000, Russell Midcap, and variants thereof still look inexpensive to our eyes. Also, generally speaking, the relationship between quality and valuation continues to hold: The higher-up the market-cap ladder one clambers, the more plentiful the bargains, and vice versa. Thus, whereas the portion of  iShares Russell 2000's (IWM) portfolio that we cover was recently trading at about a 7% discount to our fair value estimate, blue-chip heavy ETFs like  Rydex Russell Top 50 (XLG) are about 16% undervalued in aggregate.

And what of sector ETFs? Generally speaking, the most beaten-down ETFs--homebuilders, financials, and consumer-related funds--logged the biggest gains. For instance, whereas the typical financials ETF was about 22% undervalued a month ago, now it's about 16% undervalued. Not a single ETF sector category got cheaper over the past month, though health-care ETF valuations more or less didn't budge--the average health-care ETF was recently trading at about a 12% discount to our fair value estimate. Consumer-related ETFs still look cheapest with real estate and natural-resources funds at the opposite end of the spectrum. 

New ETF Analyst Reports
We've put out a slew of ETF analyst reports in recent days. Here's a capsule summary of each write-up that we've published:

•  IShares Dow Jones U.S. Medical Devices: Though they often take a backseat to their more glamorous cousins, the drugmakers, there's many a good business model built around medical devices. Harry Milling considers the bona fides of this ETF--which holds a basket of device-maker stocks--in this  report.
•  KBW Capital Markets: Subprime has absolutely clobbered the investment banks, many of which have had to seek dilutive capital infusions to perk-up their ailing balance sheets. Even if the worst is over, does this portfolio's valuation compensate for the manifold risks its holdings court? Emiko Kurotsu takes a whack at answering that question in this  write-up. 
•  iShares Dow Jones U.S. Consumer Services: This fund is a bit of a tweener, straddling names that have typically been lumped under the "staples" and "discretionary" rubrics. Given the battering that consumer-related names have taken of late, you know that the portfolio is going to be chock-full of bargains. But is it a "buy"? Emiko Kurotsu sets out to answer that question in this  report.
•  SPDR S&P Biotech: For an object lesson in the benefits of portfolio diversification, look no further than biotech ETFs, which typically are about one third as volatile as the typical biotech name. Of course, a smoother ride isn't reason enough to invest here, especially considering the often flaky quality of some biotechs. To provide a fuller picture, Harry Milling puts all the pieces together in this  write-up.
•  PowerShares FTSE RAFI Consumer Services: Similar to the aforementioned iShares ETF, this fund cuts a wide path through the consumer field. It also employs a fundamental weighting approach. Investors have to pay up for that pleasure. Emiko Kurotsu explains whether they'll get their money's worth in this  report.
•  iShares Dow Jones U.S. Regional Banks: Regional bank ETFs are an odd lot. Some, like Regional Banks HOLDRs, consider behemoths like Citigroup and J.P. Morgan Chase & Co. "regional". Others, such as KBW Regional Banks, stick to smaller fry, thrifts and super-community names mostly. This ETF, by contrast, splits the difference. Does it get it just right? Emiko Kurotsu provides her take in this  report.
•  Market Vectors Global Agribusiness: This has been one of the hottest-selling ETFs around. Guess why? Yep, its holdings have soared amid fierce demand for products like fertilizer spurred by record-setting grain prices. Are the investors who've flocked to this fund onto something? Harry Milling takes a step back, considers the ETF's fundamental attributes, and provides a level-headed assessment of its merits in this  report.
•  iShares Dow Jones U.S. Aerospace & Defense: War...what is it good for? The military-industrial complex, for one. Enter this ETF, which invests in a clutch of aerospace- and defense-related firms, such as Boeing and General Dynamics. Many of these stocks have prospered in recent years thanks in no small part to the ongoing Iraq and Afghanistan conflicts. The question is whether this fund will lose its firepower as these conflicts eventually wind down. Harry Milling takes a shot at answering that question in this  report.
•  Vanguard Small Cap ETF and  Vanguard Small Cap Value ETF: It wouldn't be a Vanguard fund if it wasn't dirt cheap. In that respect, these two small-cap ETFs are true to form. But do their charms extend beyond the low price tags they carry? Dan Culloton provides an answer in these write-ups.
•  Vanguard Short-Term Bond ETF and  Vanguard Intermediate-Term Bond ETF: Vanguard's low-cost structure has made it a stalwart in the fixed-income arena. So what happens when you shave a few basis points off of those already cut-rate prices? Michael Herbst explains in his write-ups of Vanguard Short-Term Bond ETF and Vanguard Intermediate-Term Bond ETF.

Blog Roll
Here are some of the topics we've covered recently in our ETF-related blog, Basis Pointing.

• Market Vectors Launches Another Solar ETF: Alternative energy, solar in particular, has been very hot given crude oil's ascent into the stratosphere. Market Vectors recently launched an ETF that invests in 20 or so solar-related firms. That launch follows closely on the heels of Claymore's recent listing of its own solar-energy ETF. Which is the better mousetrap? And does it make sense to take a shine to solar ETFs to begin with? We tackle those issues in this posting.
• PowerShares Registers Middle East and Africa ETF: This would be the first ETF to specifically target firms based in Middle Eastern and North African nations. Though it'll exclude Saudi Arabia, other oil-rich countries like United Arab Emirates and Bahrain will be represented here.
• Interesting Mutual Funds in the Offing: A trio of forthcoming open-ended mutual funds--Champlain Mid-Cap, PIMCO Fixed Income Unconstrained, and PIMCO Global Advantage--that have us licking our chops.
• Dissecting ETF Industry Growth--The Strong Get Stronger: Heaven knows we've seen a great many ETFs launches in the last few years. And we've also seen ETF assets under management continue to pile up at a fast clip. Yet, how much have the new crop of ETFs contributed to the industry's growth and is the industry more fragmented than it used to be? The answers might surprise you.
• The Case for Performance-Based Fees: We stray a bit into terra incognita with this three-part series on the virtues of performance-based fees. To make a long story short, we think that mutual fund companies ought to embrace performance-based fees--the more meaningful the potential performance adjustment, the better. Here's an overview of the case for performance-based fees, a tally of the benefits we think investors and managers alike would accrue, and a run-down of some of the implementation questions that might arise along the way.

New Listings
Following is a tally of ETFs and ETNs that began trading in the last week or so (we've linked to the relevant prospectus whenever possible).  

• Market Vectors Solar Energy and Claymore/MAC Global Solar Energy: We examine these ETFs--both of which invest in the shares of 20 or so solar energy-related firms--at greater length in our blog posting "Market Vectors Launches Another Solar ETF".
• DB Agriculture Long ETN, DB Agriculture Double Long ETN, Agriculture Short ETN, DB Agriculture Double Short ETN: All of these ETFs are tethered to the Deutsche Bank Liquid Commodity--Optimum Yield Agriculture Excess Return Index. That benchmark consists of a basket of corn, soybeans, sugar, and wheat futures. These ETNs are the latest in a string of agriculture commodity-related ETNs to launch in the last six months. (Eight such ETNs have launched over that span.)
• PowerShares Active Mega Cap, PowerShares Active Low Duration, PowerShares Active Multi Cap, PowerShares Active AlphaQ: We've already written extensively about actively managed ETFs--this crop in particular. Here's an overview of our impressions on some of the new actively managed ETFs that have come to market, some additional color on the factors that are likely to influence the shape and direction of actively managed ETFs in the future, and finally some research into the expense ratios that PowerShares is levying for these ETFs.
• NETS Hang Seng, NETS CAC40, NETS TOPIX, NETS DAX, NETS S&P/ASX 200, NETS FTSE 100: The launch of these funds marks Northern Trust's formal entry into the ETF field. These ETFs will track a suite of indexes that, while recognizable abroad, aren't exactly household names in the U.S. The Hang Seng, for instance, is a popular proxy for the Hong Kong stock market.

By our count, 75 funds have launched thus far in 2008, with commodity (25) and currency (9) products being most common. Exchange-traded notes have accounted for roughly one in every two launches this year. All but three of the commodity and currency products launched this year have been ETNs, making 2008 the Year of the ETN.

ETF Pipeline
Only one new ETF--PowerShares MENA Frontier Countries--entered the pipeline in the past few weeks. The PowerShares fund would track an as-yet unnamed index of roughly 50 stocks based in 10 Middle Eastern and North African nations (Nigeria, Lebanon, Egypt, Morocco, Oman, Jordan, Kuwait, Bahrain, Qatar, and the United Arab Emirates). It would be the first ETF to target these countries specifically. (Though SPDR S&P Emerging Middle East & Africa  treads similar ground, it stakes the bulk of its assets in Israel and South Africa; neither of those countries figure into the index that the PowerShares fund will track.)

Taking Stock
Want to know how some of the most popular ETFs have fared? This performance summary should whet your appetite.

If it's the leaders and laggards that interest you, then give our best/worst performers list a look.

Finally, looking beyond ETFs to the benchmarks and industries themselves, you can find a wealth of performance data on Morningstar.com, including performance stats by indexes, sectors, and industries. Also, be sure to check out our quote reports for the Dow, S&P 500, Russell 2000, and Nasdaq Composite indexes.