5 ETF Classes To Avoid

By Tim Parker | June 27, 2012 AAA

Markets can change overnight. What seemed like a bull market in the early months of 2012 had a major mood swing as news of more trouble in the eurozone once again became front page news. Because of that, traders and investors have to constantly respond to these market changes, especially if their time horizons are short or medium term.

Because exchange-traded funds (ETFs) track the performance of market sectors, the popularity of these funds change as investor sentiment towards certain corners of the market changes. Here are a few sectors to think twice about in the current market environment.

SEE: Building An All-ETF Portfolio

International Markets
If you're a long-term investor, there's little doubt that international market ETFs, especially those tracking the performance of the eurozone, represent a great value play; however, for those with a short-term time horizon, much of the international community may be a place to avoid. For instance, the $5.6 billion Vanguard MSCI Europe ETF has seen performance slip to -16.34% since January. So whether it's an ETF that tracks the performance of the euro or one that follows a specific country's stock index, most experts agree that any resolution to the eurozone crisis is still not within eyesight.

Oil
The U.S. Oil Fund (USO) is down nearly 30% from its March high and if the world's economies continue to remain challenged, USO and the many other ETFs that are levered to the performance of oil, may see further declines. Short-term investors looking to cash in on a technical- or weather-related bounce may consider the oil sector as an ultra-short-term trade, but investors with a medium-term time horizon may still be best advised to stay away.

Utilities
There's no doubt that investors remain scared, and when they're scared they flock to what they consider safe-haven sectors. The utilities sector is one such sector and the performance of the ETFs tracking this sector illustrates that. Since the beginning of April, the utilities sector has outperformed the broader market by a large margin, but that may all come to an end if investors believe that the world market crisis is coming to an end. Risk off will eventually lead to risk on, and when that happens, money is likely to flow out of these ETFs en masse.

SEE: Trust In Utilities

Financials
Moody's recent downgrade of five of the six largest banks proves that the financial crisis that started in 2008 is still not loosening its grip on the banks four years later. For many of those years, value investors have waited for the financials to pay off but other than short term bounces, the financial sector still remains a place to avoid.

Pharmaceuticals
Good market or bad market, everybody needs healthcare and that makes the pharmaceutical sector another safe haven play for investors. The SPDR S&P Pharmaceuticals (XPH) is up nearly 10% in the past six months, compared to the overall market that hovers around flat, but putting money to work in pharma ETFs is a bet that the market will continue to be challenged. As investors have seen in the past, the market has a way of changing its mind rapidly. Investors may not lose a lot of money, but the gains in the pharmaceutical sector may be at their peak, at least for the short term.

SEE: Evaluating Pharmaceutical Companies

The Bottom Line
Every market has opportunities to profit, but part of making money comes from knowing when not to take a risk. In the case of the current market, these sectors and the ETFs that represent them may be best left alone until conditions change. Since markets change every day, some of these sectors may once again represent compelling buys.

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