Alternative Energy

Even though oil has come off its highs, Lydon says it is still expensive and a shortage is still going to be a problem.  Many ETFs investors are thinking alternative energy will be the next big thing.   “There’s also the threat of global warming, which is only going to get worse if we don’t change our ways,” says Lydon. 

Four alt-energy ETFs have launched this year – two each for wind (PowerShares’ QMX Clean Edge Global Wind and First Trust’s ISE Global Wind Energy) and solar (Claymore’s MAC Global Solar Energy and Van Eck’s KWT Market Vectors Solar Energy).  While these funds might be down so far, Lydon says analysts and others think this sector is going to have big potential.  U.S. electrical demand is expected to grow 39% through 2030, and wind/solar power could help meet the demand in a cost-effective and environmentally friendly way.

401(k)s

The push to make ETFs a regular feature of 401(k) plans is getting stronger.  The Department of Labor has given a deadline of Jan. 1 for plan sponsors to disclose fees and performance numbers in plain English.  (See our article on this topic.)  Lydon says some 401(k) plan sponsors are already lowering their fees in anticipation. A recent study by Deloitte of 436 plan sponsors shows the average expense fee is 0.63%, down from 0.75% two years ago. Additionally, 18% of funds have average fees of 0.50% or less.   ETF providers are pushing for a piece of the pie, because the total defined contribution market is $4.5 trillion

Broader Industry Trends

On a broader level, Lydon expects the ETF industry to be dominated by large issuers and the very largest funds, such as State Street’s SPY and Barclay’s EFA.  “These funds are the largest and most liquid in the entire ETF industry, and despite global outperformance in recent years, the fact is that investors are drawn to domestic large-caps such as those held by SPY,” said Lydon, adding that “EFA gives investors global diversity and makes it easier for them to gain broad exposure.”

Lydon also expects the ETF industry to become increasingly commoditized for funds based on these highly visible indices, with issuers forced to compete based on price.  ”More competition leads to better pricing between funds that focus on similar areas, whether they’re broadly or narrowly focused, and it’s already happening. A little more variety gives investors more choices and keeps providers on their toes,” he said

Lydon still sees opportunities for smaller ETFs and does not expect the pace of new issuance to diminish significantly.  “As in any industry, there are funds that will survive, while others are killed off for any number of reasons, such as lack of investor interest,” says Lydon. Since it doesn’t take much money to run an ETF, providers can keep an ETF going for a long time. “Some niche ETFs are great for investors, because they offer a chance to get exposure to small segments of the markets that may be moving while others are trending down,” says Lydon.

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