Why We Don't Use ETFs

Recently, I received a great question from Family Trust subscriber, and I wanted to highlight it here:

Q: "Why don’t we incorporate ETFs into the Family Trust?"

There is a very good reason why I don’t use ETFs in the Family Trust—performance.

In January, the S&P 500 was down 3.5% and the Dow was down 5%. And if you break the S&P 500 down into ten different sectors, none of the sectors had any relative strength. The fact is that this is a purely a stock picker’s market, and I believe that this earnings season will prove this beyond a reasonable doubt.

And that’s why our Family Trust portfolio is posting such smooth and steady performance. While the market was down big in January, our portfolio pulled back just 0.8% for the month—outperforming the major indices by over four-to-one.

I have nothing against indexing; in fact, I was trained in indexing at Berkeley. But the only time to track indexes is when the market is in a low quality rally.

That’s not where we’re at now.

The current market is obsessed with quality and it is getting narrower. There are fewer winners this year compared with last year, and there will be even fewer winners as the year goes on. This is not an environment suited to indexing, like it was in 2009 (when the market went higher with a lot of new volume) or in the first six months of 2013 (when we saw a "crap rally").

The market went to quality in the third quarter of 2013, and that has only picked up through the beginning of 2014. I got off to a very strong start early in January, but as the correction got more serious it also swept up some of the good stocks. But when all of the dust settles, our Family Trust stocks will have much better earnings than the market.

In addition, one big factor that weighed down the market in January was redemptions from mutual funds and ETFs—and so they have to sell off stocks indiscriminately. Recently, Citi Research reported that in the previous five trading days that $28.3 billion was redeemed from stock mutual funds and ETFs, of which, 95% came from the ETF industry. Some major tactical ETF managers, like Good Harbor, built massive cash positions at the start of February and The Wall Street Journal reported last week that these redemptions hit medium-sized companies the hardest a week ago today.

Rather than suffering with the major indices, we use these broad selloffs as buying opportunities, as we’re doing right now in the Family Trust.

So while economic and emerging market jitters have been weighing on investors lately, earnings haven’t been a problem—in fact, the average stock in the broad market has gained 0.74% on its report day, the largest average one-day post-earnings change since the fourth-quarter 2010 earnings season.

Since earnings are the ultimate driver of the market, I continue to remain bullish on the remainder of the year, and particularly for our crème de la crème recommended stocks.


Louis Navellier

Louis Navellier

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