Best And Worst ETFs (And Mutual Funds): Materials Sector

The Materials sector ranks sixth out of the ten sectors as detailed in my sector rankings for ETFs and mutual funds. It gets my Neutral rating, which is based on aggregation of ratings of 10 ETFs and 15 mutual funds in the Materials sector as of October 9, 2012.

Figure 1 ranks from best to worst all ten Materials ETFs and Figure 2 shows the five best and worst-rated Materials mutual funds. Not all Materials sector ETFs and mutual funds are created the same. The number of holdings varies widely (from 31 to 155), which creates drastically different investment implications and ratings. The best ETFs and mutual funds allocate more value to Attractive-or-better-rated stocks than the worst ETFs and mutual funds, which allocate too much value to Neutral-or-worse-rated stocks.

To identify the best and avoid the worst ETFs and mutual funds within the Materials sector, investors need a predictive rating based on (1) stocks ratings of the holdings and (2) the all-in expenses of each ETF and mutual fund. Investors need not rely on backward-looking ratings.

Investors should not buy any Materials ETFs or mutual funds because none get an Attractive-or-better rating. If you must have exposure to this sector, you should buy a basket of Attractive-or-better rated stocks and avoid paying undeserved fund fees. Active management has a long history of not paying off.

Figure 1: ETFs with the Best & Worst Ratings – Top 5


* Best ETFs exclude ETFs with TNA’s less than 100 million for inadequate liquidity.

Sources: New Constructs, LLC and company filings

Figure 2: Mutual Funds with the Best & Worst Ratings – Top 5


* Best mutual funds exclude funds with TNA’s less than 100 million for inadequate liquidity.

Sources: New Constructs, LLC and company filings

ICON Funds: ICON Materials Fund (ICBMX, ICBCX) and Rydex Series Funds: Basic Materials Fund (RYBIX) are excluded from Figure 2 because their total net assets (TNA) are below $100 million and do not meet our liquidity standards.

iShares Dow Jones U.S. Basic Materials Index (IYM) is my top-rated Materials ETF and Vanguard World Funds: Vanguard Materials Index Fund (VMIAX) is my top-rated Materials mutual fund. Both earn my Neutral rating.

SPDR S&P Metals & Mining ETF (XME) is my worst-rated Materials ETF and Rydex Series Funds: Basic Materials Fund (RYBMX) is my worst-rated Materials mutual fund. Both earn my Dangerous rating.

Figure 3 shows that 50 out of the 224 stocks (over 32% of the total net assets) held by Materials ETFs and mutual funds get an Attractive-or-better rating. However, none of the ten Materials and none of the fifteen Materials mutual funds get an Attractive-or-better rating.

The key takeaway is: in the Materials sector, both ETFs and mutual funds are poor at allocating value to Attractive-or-better ranked-stocks. Investors would be better served to purchase individual Materials sector stocks on their own, rather than paying fund-operators expensive fees to do it for them.

Figure 3: Materials Sector Landscape For ETFs, Mutual Funds & Stocks


Sources: New Constructs, LLC and company filings

As detailed in “Cheap Funds Dupe Investors”, the fund industry offers many cheap funds but very few funds with high-quality stocks, or with what I call good portfolio management.

Investors need to tread carefully when considering Materials ETFs and mutual funds, as no funds receive an Attractive-or-better rating. No ETFs or mutual funds in the Materials sector allocate enough value to Attractive-or-better-rated stocks to earn an Attractive rating. Focus on individual stocks instead.

A Materials sector stock that receives my Very Attractive rating is CF Industries Holdings, Inc. (CF). Unlike many of the stocks held by Materials funds, CF is a highly profitable company with a reasonable valuation. CF produces fertilizer. While selling fertilizer may not be as exciting as social media or online gaming, CF has an economic earnings margin of 18%. This places it 10th out of the 167 Materials companies we cover and in the 94% percentile of our entire coverage universe. The Materials sector features 34 stocks with a Very Attractive or Attractive rating. Investors would be wise to invest in a selection of these stocks rather than investing in any Materials sector funds.

Coeur D’alene Mines Corp (CDE) is one of my least favorite stocks held by Materials ETFs and mutual funds and receives my Dangerous rating. CDE earns this Dangerous rating due to its inability to generate a ROIC in excess of its WACC. While CDE had positive net income in 2011, its 6.4% ROIC was less than its 9.5% WACC, leading to negative economic earnings. At the same time, the stock’s current valuation (~$28.76/share) implies the company must grow revenues at 25% compounded annually for 15 years. That is too rich for my blood. While there are several attractive stocks in the Materials sector, CDE is not one of them.

167 stocks of the 3000+ I cover are classified as Materials stocks, but due to style drift, Materials ETFs and mutual funds hold 224 stocks.

Figures 4 and 5 show the rating landscape of all Materials ETFs and mutual funds.

Figure 4: Separating the Best ETFs From the Worst ETFs

Sources: New Constructs, LLC and company filings

Figure 5: Separating the Best Mutual Funds From the Worst Mutual Funds

Sources: New Constructs, LLC and company filings

Disclosure: I receive no compensation to write about any specific stock, sector or theme.