Morningstar Advisor - June/July 2009 - 63

And SEC Yield > 3.30 And of course we want to cut down on that risk. Modern finance theory says we should only pay attention to betas, or exposure to major risk factors in the market. But risk factors can be a slippery subject, as there are anywhere from one to five of them depending on whom you ask. And if you have a major stock holding to provide income, chances are that you don’t care if it only goes down a lot when the market’s doing well. We want a stable fund, so we will look at the total risk as measured by the standard deviation, or variation of the fund’s returns over the past three years. This does cut out some of the most recent ETFs from our consideration, but at least six dividendfocused ETFs date back far enough for this screen to apply. For our maximum allowed risk, we once again choose to benchmark against the S&P 500, which has had a standard deviation a bit over 17.5% in the three years up to March 31, 2009. asset levels. By using limit orders, a typical investment of several thousand or even tens of thousands can be easily accomplished at fair value in a fund as small as $50 million. fund peers, is its paltry 0.25% expense ratio, making it the second-lowest-cost utilities fund available to retail investors (just behind Utilities Select Sector SPDR Fund XLU, which clocks in at 0.23% per year). iShares NYSE 100 Index NY And Net Assets $ MM > 50.0 This screen produced six ETFs using the March 31, 2009, release of Principia. None of them were dividend-focused funds. Instead, we found that traditional stalwarts such as utilities, consumer staples, and U.S. mega-caps delivered the low-risk, higher-yield goods where their income-focused counterparts failed. Here are four of the resulting ETFs. iShares DJ Consumer Goods IYK And Std Dev 3 Yr –37.00 Finally, liquidity remains a critical factor to consider with ETFs. It doesn’t matter how great a fund is if trading costs eat into all our gains. Fortunately, ETFs tend to pick up enough liquidity for most investors even at very low Vanguard Utilities ETF owns a mix of regulated and unregulated utilities stocks. The end result is a portfolio of average quality and risk. The fund isn’t excessively volatile, so it passes our risk screen while capitalizing on the traditionally high and stable dividend yields for which utilities are known. This exchange-traded fund tracks the MSCI U.S. Investable Market Utilities Index, an index of roughly 90 domestic utilities stocks. Perhaps the most intriguing part of this fund, at least relative to its mutual Here is a great example as to how useful Morningstar’s Analyst Reports can be when choosing the right ETF for your portfolio. As the second utilities-sector fund to pass our qualitative screens, we have a choice to make as to whether to purchase this fund or the Vanguard Utilities ETF. Despite the fact that this fund has nearly twice the assets under management as Vanguard’s offering, it also sports nearly twice the expense ratio. Given that the top 10 holdings of each of these funds are nearly identical, and that the Vanguard fund sports 84 holdings compared with this fund’s 75, we see little reason to choose the iShares offering. We’ll choose the cheaper of two virtually identical funds every day of the week. Bradley Kay is an ETF analyst for Morningstar. MorningstarAdvisor.com 63

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Morningstar Advisor - June/July 2009

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