by David Fry

I once interviewed a successful exchange-traded fund (ETF) sponsor and had the temerity to offer some suggestions where some ETFs were needed.

The response from this person was: Look, were not interested in filling needs as much as we are in building a business. This made an important point: Investors must align their investments to match their needs versus the business interests of sponsors.

The market for exchange-traded funds has never been more robust and expansionary. The most prominent activity for sponsors is similar to a game of Battleship in which the winner fills all the slots before the next guy. Why? Because the first mover advantage to a sector and index cements their brand as the go-to shop.

The most important activity for investors remains focusing on those ETFs that work and matter to them versus any sponsors marketing campaign.

Its hard to imagine that in 2005 we published an essay in our newsletter, the ETF Digest. entitled The ETF Tsunami that discussed the then-impending flood of new ETF issues about to hit the markets. Obviously, it seemed even then the sector was undergoing explosive growth, but with todays level of issuance tsunami seems an understatement.

Then we noted roughly 200 exchange-traded funds. Now, in 2010, there are nearly 1,000 exchange-traded funds. Asset class coverage has also rapidly expanded from just a few stock- and bond-oriented funds to currency, commodity, actively managed, inverse, long/short strategies, options-related, preferred, leveraged long or short issues and so forth. In short, theres not an asset class that isnt being traded or not in registration.

Further, ETFs are also gaining acceptance internationally and expanding rapidly. There are hundreds of listings in just about every established market in Europe, Asia-Pacific and even Latin America.

Nearly $1 Trillion Invested

The number of players or sponsors in the ETF game is growing. Even brokers like Charles Schwab are launching their own ETF products and Fidelity is in a partnership with BlackRocks iShares. Exchange-traded funds in registration with the Securities and Exchange Commission (SEC) number in the many hundreds with long backlogs. ETF issues in the U.S. alone are pushing one thousand with assets under management soon to top $1 trillion.

Traditional mutual fund companies are challenged to enter the ETF market, fearing cannibalization of existing products. Nevertheless, many cant ignore the trend and have entered the business. Amvescap (Invesco) purchased PowerShares and mutual fund giant Vanguard features a large ETF product line.

Being First Has Its Advantages

The way the battle works on the ETF seas is to be the first issuer to cover a sector before the other issuer.

Gold is a great example. State Street was the first out of the gate with SPDR Gold Trust (GLD ) in 2004. It now has over $50 billion in assets under management. Just a few months later, in early 2005, iShares launched COMEX Gold Trust (IAU ) with assets under management of around $3.8 billion. Forgetting the structural differences, this is the most prominent example of the Battleship game. IAUs later launch doomed it to second fiddle status even though $3.8 billion in assets is nothing to sneeze at. To fight back and gain more market share, iShares has cut the fee on IAU and declared a high stock (split 10:1) dividend.

The scramble by ETF issuers is still in high gear. With many issues in registration with the SEC there is incredible business pressure to come to market first with similar offerings.

Such competition is good for investors since it yields more favorable terms to them. When looking at exchange-traded funds linked to the same index, consider the fund with the lowest fees.

ETNs versus ETFs

Exchange-traded notes ( ETNs) notes are popular given the easier registration and issuing process versus exchange-traded funds (ETFs). Most ETNs are senior debt of the issuer/sponsor. Popular issues include commodity and currency issues from iPath (Barclays) and PowerShares (Deutsche Bank). The risk to investors remains the credit-worthiness of the guarantor. The reward is that popular sectors become more quickly available.

Commodity tracking funds that include a wide variety of sectors (energy, metals, agricultural and so forth) were launched first a few years ago by Deutsche Bank as ETNs, which are guaranteed by Deutsche Bank as to the integrity of assets in the fund. Examples include DB Commodity Long ETN (DPU). DB Base Metals Short ETN (BOS). DB Agriculture Double Long ETN (DAG) and so forth. They have now partnered with Invesco PowerShares for marketing purposes but still manage the funds in New York City.

More recently, iPath, a part of Barclays Bank with senior notes guaranteed, has joined in issuing ETNs on copper (JJC). grains (JJG). currency (ERO. GBB. and JYN ), energy (OIL) and so forth.

Rydex was first in issuing unleveraged currency issues for U.S. investors, and weve been using them for quite some time.

Remember, with those issues deemed as leveraged, most basic commodity and currency issues arent leveraged. When someone asserts that dealing in these funds is risky, I always respond, Given their structure, they may not be risky enough so as to earn decent returns, especially in currency issues.

Discussion

Dan from FL posted over 4 years ago:

I am a new member, I have seen very little discussion concerning the NUVEEN ETFs. Is there any past or pressent discussinos about this group of funds?