As an ETF analyst diving regularly into prospectuses to figure out how a fund truly works, I’m frankly surprised by how often what I expect to find is not what’s actually there.
Some of the ETF names I see have little to do with what the funds actually hold or how they are structured.
So, with that in mind, I thought I’d share a list of the more serious offenders.
Be aware that most of the time, ETFs are the victims of their own underlying indexes and classification methodologies, and those details can be missed if investors aren’t careful.
Let’s begin with the SPDR S'P Emerging Middle East ' Africa ETF (GAF), which allocates 90 percent of the portfolio to South Africa. The remainder is split between Egypt and Morocco. As such, GAF pretty much lacks the Middle Eastern exposure its name advertises.
The fund’s underlying benchmark, the S'P Mid-East and Africa BMI Index, doesn’t have any Middle Eastern countries that it classifies as “emerging.” Israel used to fit that bill before it was reclassified as “developed” in mid-2010, and removed from the “frontier” index.
Although GAF looks like a single-country South Africa fund now, this may change if S'P upgrades Qatar and Kuwait from frontier to emerging. Perhaps this will happen in the next few years, at which point the portfolio will look a lot more like its name suggests it should.
Until then, this Emerging Markets Middle East ' Africa ETF provides zero exposure to the Middle East.
Meanwhile, the Global X FTSE Argentina 20 ETF (ARGT) doesn’t target companies domiciled in Argentina. Instead, it tracks a benchmark of firms that “directly participate in the Argentine economy.”
In addition, only shares that are open to foreign ownership without any restrictions are eligible for inclusion, such as depository receipts (DRs) and non-Argentinean listed securities. As a result, firms that exclusively trade on local markets are excluded from the index.
In the end, only about 40 percent of the companies in the fund are domiciled in Argentina. The rest are split more or less evenly among companies based in North America and Europe. Its largest holding, at 18.9 percent, is Tenaris, a manufacturer of steel pipes, with a home office in, of all places, Luxembourg.
The Guggenheim Frontier Market ETF (FRN) is another fund whose name doesn’t do justice to what’s under the hood.
FRN is a “frontier market” fund with an underlying index that follows BNY Mellon’s country classification framework. I used the quotation marks because BNY Mellon classifies Chile, Colombia, Egypt and Peru as frontier, even though these countries as classified as emerging by the biggest index providers of today, including MSCI, FTSE and S'P.
In all fairness, country classifications are still hotly debated in the world of indexing. But BNY Mellon’s classification definitely goes against the grain on this one.
This is a shame, especially since investors who hold FRN as well as an emerging market ETF from another issuer would most likely double-dip in the country exposures mentioned above, skewing risk and returns.
Similar to ARGT, FRN can only hold DRs, which significantly reduces its ability to access local companies that don’t have listings on foreign exchanges.
The Guggenheim BRIC ETF (EEB), like FRN and ARGT, also tracks an underlying index of DRs. The problem here is that very few Russian securities trade on foreign stock exchanges, which translates to a mere 2.3 percent allocation to Russia—leaving out the “R” out of BRIC.
The argument for DR-based indexes is that they provide some liquidity advantages over their local-market counterparts since they trade during U.S. market hours, as in the case of American depository receipts (ADRs).
However, not all stocks are traded as DRs, so investors may not receive the most representative market basket.
Aside from the prevalence of DR issues, I should also point out an issue that comes up with the entire suite of sector SPDR funds, including the SPDR S'P Homebuilders (XHB); the SPDR S'P Bank ETF (KBE); as well as the SPDR S'P Metals and Mining ETF (XME).
These ETFs track equal-weighted indexes. But their names don’t reflect this, and at first blush they look like plain-vanilla market-cap-weighted sector ETFs.
That matters because equal-weighted funds have smaller-cap tilts, meaning investors that don’t know what they’re getting into might be in for a bouncier ride than, say, a broader cap-weighted ETF would deliver.
That said, the S'P indexes that these funds track don’t have “equal” in their names—so this ambiguity can be pinned on the index provider as much as on the fund issuer.
Another area of the market that tends to have misleading names is metals and mining ETFs. These types of funds don’t replicate their underlying index fully—only 80 to 90 percent has to be invested in the underlying index.
Previously, I’ve written about this issue when I looked at the presence of nongold miners in gold miners funds . For example, the Market Vector Gold Miners ETF (GDX) holds Silver Wheaton, the world’s largest silver-streaming company, in its top 10 stocks.
None of these issues crosses any legal lines—the case of SPDR equal-weighted sector funds being the perfect example—but there just has to be a better way to notify investors from the get-go.
The takeaway?
Don’t judge a book by its cover. The names of some funds clearly don’t tell investors the whole story, so it’s crucial to look at how funds are structured and why.
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