Daniel Sotiroff: Specialist ETFs are a unique breed that cater to certain investor tastes and preferences. Think of them as the toppings on a taco—they're meant to complement the dish, not be the primary focus. And there's a wide range of options available. Some may prefer a mild pico de gallo, while others may want a spicy sriracha. Regardless of individual tastes, investors should still do their homework to ensure a strategy is sound and has the characteristics that align with their long-term goals. Great specialist ETFs should enhance a broadly diversified portfolio over the long run, and not leave investors with a bad aftertaste. So, here's a few options to consider:
3 Great Specialized ETFs
These exchange-traded funds earn Morningstar Analyst Ratings of Gold or Bronze.
- Vanguard Tax-Exempt Bond ETF VTEB
- iShares MSCI USA Momentum Factor ETF MTUM
- Avantis International Small Cap Value ETF AVDV
Vanguard Tax-Exempt Bond ETF The first ETF on my list is Gold-rated Vanguard Tax-Exempt Bond ETF, with the ticker VTEB. It holds a range of investment-grade municipal bonds of all maturities that are exempt from federal income taxes. But this isn't a fixed-income fund for everyone. It's best suited for investors in the top income tax brackets—those positioned to get the most tax benefit from municipal bonds—that also want a fixed-income stake in a taxable account.
The bonds in VTEB’s portfolio are issued by municipalities from all 50 states. Bonds from New York, California, and Texas collectively represent just under half the portfolio. At first blush, that may suggest some concentration risk. But those weights represent the muni-bond market’s composition, and these issuers have investment-grade credit ratings. About 70% of the bonds in this portfolio belonged to issuers with a AA or AAA credit rating, so there’s very little likelihood that these issuers will default.
iShares MSCI USA Momentum Factor ETF
My second specialist ETF is for investors that want to enhance their portfolio’s long-term return. Bronze-rated iShares MSCI USA Momentum Factor ETF, commonly known by its ticker MTUM, is one of the top momentum funds available. It provides solid exposure to the momentum factor, while incorporating a few benefits that make it more palatable as a real-world momentum strategy. It’s a great way to potentially enhance the long-term performance of a globally diversified portfolio.
MTUM has some advantages over other momentum strategies. It looks for stocks with the best risk-adjusted gains over the prior seven and 13 months. And it has a provision to rebuild its portfolio during periods of extreme market volatility—when past momentum signals are no longer effective.
Those are some great features, but momentum is also a temperamental factor. Investors will need to be patient with MTUM, and they should expect a bumpy ride. The composition of its portfolio can change dramatically from one rebalance to the next, and turnover is also considerably higher than other factors, such as value or quality, so the trading costs will likely be higher as well.
Avantis International Small Cap Value ETF
The third and final ETF on my list ventures into a niche corner of the foreign stock market. Bronze-rated Avantis International Small Cap Value ETF, which trades under the ticker AVDV, is another great option to consider as a way to enhance a portfolio’s long-term performance.
There aren’t many foreign small-value ETFs available and even fewer worth considering. But AVDV stands out from its peers by focusing on profitable small companies trading at attractive price multiples—a combination of factors that increases its odds of holding future winners.
AVDV’s portfolio has a stronger emphasis on profitable companies than most foreign small-value ETFs. Some of its holdings don’t immediately pass the sniff test as value stocks, but that’s intentional. Certain growth stocks can make their way into this portfolio if they trade at attractive multiples relative to their profits. Despite incorporating these more expensive names, the ETF still performs much like a small-value portfolio, and it may be used to round out a globally diversified portfolio.
Watch 3 Great ETFs for Contrarians by Daniel Sotiroff.