Sunday Nov 27, 2022

Challenging The Popularity Of ETFs: A Case Study Of An Airline And A Solar ETF – Seeking Alpha


Vadzim Kushniarou/iStock via Getty Images

I have long had mixed feelings about ETFs. I am not convinced that most of them make a compelling investment case in the stead of buying individual companies. This is in part due to the simple dynamic of expense ratios: you have to pay someone to manage whatever ETF you buy, and those expenses will drag down your returns. Another reason I shy away from ETFs is because most of them hold too many weak companies that I wouldn’t invest a cent in outside an ETF, so why would I settle for an ETF that has that company in it? The third main reason I don’t like them is because ETFs have become so prolific that determining which one to buy takes as much work and research as it takes to research individual companies. So I might as well rid myself of the other two disadvantages and buy individual companies.

My feelings in this regard came to fruition in my investigation of the Invesco (Guggenheim at the time) Solar ETF (TAN) back in 2017. In short, that ETF had a lot of garbage companies in it, some of them having little to do with the solar energy theme I wanted exposure to. Nor was I interested in paying the .7% expense ratio. So I put together my own “ETF”, consisting of a few solar companies that my research revealed had great potential. In an article published in November of 2017 I revealed my seven picks to go head-to-head with TAN. The results have been decidedly in my favor:

Data by YCharts

(Note: one of my original seven was 8point3 Energy Partners, which was acquired months after the recommendation. The buyout out price was below what it was when I gave the recommendation. My calculations reflect the loss, with the leftovers then being equally distributed among the remaining six.)

The return on my concentrated portfolio is 406% or ~50% compounded annually whereas TAN has returned 293.6% or ~ 41% compounded annually. Did I get lucky or was my research good? Probably some of both, but I believe my research had a lot to do with it, as I will show later.

Proponents of ETFs argue that it is a simple way to get broad exposure (diversification) to a desired sector, industry, or theme. If you buy an ETF you don’t have to worry about selecting winners and avoiding losers. But as I mentioned above, the trouble is that ETFs have become so popular that nowadays there are sometimes dozens of ETFs that are designed to track basically the same thing. Then you are stuck trying to select the ETF that will win and avoid the ETFs that will lose, the very problem investors are hoping to avoid in selecting individual stocks. For example, if you want to have exposure to the video gaming industry via an ETF you have five options to choose from. Those five funds differ enough in so many particulars that researching which one is best for you will require as much work as investigating individual companies for potential purchase.

Now, that’s a lot of ruminating. My point with this article is to do a bit of the reverse of what I did with TAN. Instead of picking stocks to outperform an ETF going forward, I want to look at an ETF to see if its past performance delivered returns better than what would have been achieved by trying to pick individual stocks from within that ETF, …….


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