Who Else Wants Ex-Sector ETFs?

 

The ETF industry continues to demonstrate impressive growth, both in assets and number of products. Already in 2010 more than 60 new ETFs have hit the market, putting this year on pace to shatter last year's product development record. This surge in product offerings has led some to lament that the industry has reached (or even blown past) a saturation point, pointing to the increasingly granular and esoteric funds that have popped up in recent years. Some degree of contraction in the ETF industry in 2010 is likely–in fact it's begun already–but there are still a lot of good ideas coming out of ETF issuers. The VIX ETNs from iPath are a great example (they have aggregate assets of more than $1.5 billion), as are several of the ETFs to launch over the last year (see the Most Successful New ETFs of 2009).

And there are still some interesting stones that remain unturned. No one has brought to market an automotive ETF, one of the several glaring opportunities we see in the current ETF lineup. Several of the world's largest and most unique economies aren't covered by U.S.-listed ETFs, and there seem to be opportunities for improvement on other popular funds as well.

There is no shortage of ideas under consideration–there are more than 500 ETFs in registration–but it never hurts to have a few more ideas out there. So here's another: a line of "ex-sector" ETFs.

Inspired By The Islamic ETF

When analyzing the performance of the various faith-based ETFs during the first quarter of 2010, one outlier immediately jumps out. The gains delivered by the FaithShares products (based on indexes constructed in compliance with Christian, Baptist, Catholic, Lutheran, and Methodist values) were all fairly consistent (and all better than , while the Dow Jones Islamic Market International Index Fund  lagged about 500 basis points behind. That's a significant single-period gap, but there's a relatively simple explanation.

JVS is based on the Dow Jones Islamic Market International Titans 100 Index, a benchmark that consists of stocks that meet Islamic principles. According to the fund's Web site (emphasis added), "excluded businesses include alcohol, conventional financial services (banking, insurance, etc.), casinos and gambling, pornography, tobacco manufacturers, pork related products and weapons companies." So the explanation for the relatively poor performance becomes clear; financials surged in the first quarter of the year, but JVS, which is effectively an ex-financials ETF, missed out on this bump.

So here's the step-by-step instructions for a new ETFs (actually for nine of them):

1. Start with SPY
2. Remove all of the financial stocks
3. Repeat for energy, technology, consumer discretionaries and staples, utilities, materials, and industrials

The result is a line of "ex-sector ETFs" that offer diversified exposure to the U.S. economy with the exception of one particular sector. It would be an easy way to underweight a particular sector while retaining balanced exposure to the rest of the market.