Dion Money Management Blog   Money Management for Retirees and Their Families

Among the issues Don Dion blogged about this week on RealMoney.com were China’s recovery, a Vietnam ETF and a South Africa ETF.

Chinese Recovery Could Push Nickel Higher
Posted 9/17/2009 9:50 a.m. EDT

China’s fabled pig farmers are back in the news, courtesy of Sucden Financial. The farmers made a splash last month when word got out that they were stockpiling industrial metals. Bloomberg reports that the head of business development in Asia sent an email estimating that more than half of the inventory in Shanghai comes via speculation. He also estimated that speculators have 20,000 tons of nickel.

While some analysts worry that this metal could come back to the market and crush prices, others speculate that it is being hoarded for monetary value.

iPath UBS Copper ETN(JJC) is near its 52-week high and up more than 10% since the end of July. iPath UBS Nickel ETN(JJN) is down 3% during that time and peaked on Aug. 5. From the peak, it is down 18%.

Speculators bought at the right time, when prices were severely depressed, but it will take economic recovery to push the metal higher, especially with the Chinese government encouraging the purchase of gold and silver as a store of value.

Those looking to play an economic recovery can consider the ETNs or the PowerShares DB Base Metals(DBB) ETF, which holds copper, aluminum and zinc. PowerShares also offers an ETN tracking the same index, PowerShares DB Base Metals Long(BDG), but the volume averages only 4,000 shares per day vs. almost 500,000 for DBB.

Vietnam ETF Is Attractive Emerging Market Option
Posted 9/16/2009 7:08 a.m. EDT

Traditionally, when the term “emerging market” is brought up in conversation a basket of Brazilian, Russian, Indian and Chinese companies comes to mind. However, there are a number of other nations around the world whose economic status may make them especially attractive to international exchange-traded fund investors looking for something new to add to their portfolios.

While I document a number of ETF options in my  multipart series, “Sick of BRIC? ETF Alternatives,” Vietnam, in particular, has sparked my interest for its low manufacturing costs and its enormous young work force. The ETF designed to track the nation’s market, Market Vectors Vietnam ETF(VNM), has been actively trading only for a short period. However, I feel it is a great option to consider when looking for alternatives to traditional international ETFs.

The companies that make up VNM’s holdings hail from across a number of sectors. The fund is most heavily concentrated in financials, which account for more than 45% of the total assets. Other standout sectors include energy and industrial materials accounting for 25% and 20%, respectively.

Some analysts are saying that Vietnam’s economy has the potential to become the next China. If that turns out to be true, ETF investors holding VNM may be in for a nice ride.

More Gains in Store for South Africa ETF
Posted 9/15/2009 9:50 a.m.

More gains could be in store for the WisdomTree Dreyfus South African Rand(SZR). South Africa Finance Minister Pravin Gordhan said the government will not intervene to halt the currency’s advance.

Days earlier, both the head of South Africa’s central bank and the IMF issued independent statements suggesting volatility for the rand, with the IMF saying it was 16% overvalued.

Over the past three months, SZR gained 10.5%, better than all currency funds except for the WisdomTree Dreyfus New Zealand Dollar(BNZ) and Swedish Krona(FXS). Gains for the rand are more recent, however; SZR gained 8.71% in the past month. The next-best-performing currency ETF was CurrencyShares Japanese Yen(FXY), up 4.85%.

Year to date, the rand is up 41% vs. 27% for WisdomTree Dreyfus Brazilian Real(BZF).

The government’s commitment to a floating rand means the currency will not meet resistance as it climbs. Unless there’s a reversal in commodity prices or the U.S. dollar begins a rally, I expect current trends to continue. That said, the easy gains in SZR are gone, and traders should use caution.

Disclaimer

The S&P 500 added 2.6% this week and finished with a small gain. This market has put together impressive gains in September, but the daily moves remain quite small, with the past five days showing returns of 0.6%, 0.3%, 1.5%, -0.3% and 0.3%.

Traders continue to pile into (and out of) the same sectors, with natural gas and REITs showing up again in the winners and losers, while the dollar, Japanese yen, and long bonds continue to lag.
Winners

United States Natural Gas(UNG) +9.9%

iPath Natural Gas(GAZ) +10.5%

First Trust ISE-Revere Natural Gas(FCG) +4.7%

The premium on UNG narrowed substantially this week after the firm announced it would issue more shares as of Sept. 28. This caused it to lag GAZ, which still has a premium of 8.9%, much higher than the 5.6% on shares of UNG.

The Energy Information Administration attributed the rise in natural gas last week to optimism over the economy, even as inventory continues to grow. Traders may get a respite from the weather, however, as unseasonably cool weather that reduced electricity demand for air conditioning this summer will increase demand for home heating this winter if temperatures stay below trend.

There’s also the possibility that the announcement that UNG would issue more shares has led to optimism in the market, but a quick check of the price of natural gas futures alongside the rise in UNG’s assets shows the fund, while generating major contango, isn’t powerful enough to fight the trend.
Market Vectors Coal
(KOL) +7.5%

Coal prices are expected to stabilize or rise in coming months. Mine closures in China have cut the supply of coking coal, while steel production should keep demand steady. The rebound in natural gas doesn’t hurt either, because natural gas is competitive with coal on price.

iShares Cohen & Steers Realty Majors(ICF) +9.6%

An IRS rule change designed to prop up the limping commercial real estate market generated a surge of optimism last week, with shares of several REITs up more than 5% on the day of the announcement.

Fitch Ratings’ head of U.S. REIT group said public REITs have more access to capital now, mostly via secondary offerings.
Losers
iShares Japan Small Cap(SCJ) -0.8%

iShares Japan(EWJ) -1.1%

With little help from the Japanese yen last week, Japanese equities ETFs fell more than the Nikkei’s 0.7% drop. Shares rallied following the Japanese election results, but since then the market has moved sideways.

iShares S&P North American Semiconductor(IGW) -0.8%

IGW lost a little territory this week, but it remains on the cusp of a new 52-week high.

PowerShares DB U.S. Dollar Bullish(UUP) -0.2%

CurrencyShares Japanese Yen(FXY) -0.8%

Equity markets gained ground in the U.S., and that meant lower prices for the dollar and Japanese yen. Discussion of the dollar as a carry-trade currency has increased in recent weeks and suggests that the selling in the greenback may be done for the near term.

Disclaimer

PowerShares is planning to introduce a new ETF that will invest primarily in Build America Bonds.

While the new fund is certainly unique in its theme, it is the fund’s contingency plan that should warrant investor attention. In an age of regulatory pressure and increasing competition, ETF contingency plans may become the new trend in a booming industry.

The Securities and Exchange Commission filing for the new fund states that the ETF will invest in securities that comprise the Merrill Lynch Build America Bond Index. Since the launch of the federal stimulus program, about $27 billion in direct pay, dollar-denominated Build America Bonds have been issued by municipalities. Tax treatment of the bonds varies depending on the issuing municipality.

Fixed-income products have become an incredibly popular segment of the ETF industry, so it’s no surprise that Invesco(IVZ)-owned PowerShares is looking for unique ways to break ground on new products.

In 2009, the two biggest asset-gathering funds for ETF giant iShares have been the iShares Barclays TIPS ETF(TIP) and the iShares iBoxx Investment Grade Corporate Bond ETF(LQD).

The striking part of PowerShares’ new ETF filing is the acknowledgement that the new ETF strategy will likely have a limited life span. Under the Federal Stimulus Act, Build America Bonds are set to be discontinued at the end of 2010. The prospectus for the new fund notes that unless the provision for these bonds is extended, availability of the bonds could become limited and liquidity could dry up quickly

PowerShares had taken care to highlight the fast-approaching deadline for these bonds and formulate a contingency plan. In the absence of a Build America Bond Extension, PowerShares plans to change the ETF’s strategy to invest in an index composed of taxable municipal securities.

While the upcoming uncertainty may be enough to deter many buy-and-hold investors, the contingency plan is a smart move for PowerShares. The flexibility that is built into this fund’s strategy and prospectus could help the new ETF to dodge some of the problems facing current ETFs in the market.

When regulatory uncertainty pressed managers of the futures-based United States Natural Gas ETF(UNG) to halt share creation, an alternate strategy had to be enacted on the fly. As share creation stood at a standstill, and premiums soared, UNG’s managers devised alternate ways for the ETF to track its underlying index, such as selling futures and buying swaps.

In July, ETF issuer Claymore gave new life to an unpopular ETF by dramatically overhauling its underlying strategy. After Claymore/Great Companies Large-Cap Growth Index ETF failed to attract sufficient investor interest, fund managers closed the fund while launching a new fund, the Claymore/BNY Mellon International Small Cap LDRs ETF(XGC), under the same symbol of the closed fund.

While this “contingency plan” may not have truly been “planned” out in advance, it was a great way for Claymore to dramatically alter a fund strategy rather than to kill the listing altogether.

The problem with making dramatic strategy changes on the fly is that they generally require shareholder approval. In the case of XGC, the investor interest was so low that most of the assets in the fund were likely seed money. It is pretty easy to poll shareholders when there is only a handful.

As the debate about regulatory overhaul heats up, however, it is no longer simply lack of investor interest that is killing ETFs. On Sept. 9, Deutsche Bank(DB) redeemed shares of the popular PowerShares DB Crude Oil Double Long ETN(DXO) due to regulatory restrictions. Like UNG, the size of DXO made the fund vulnerable to potential position limits. Rather than overhauling the fund’s strategy, DXO’s managers decided to shut it down.

Shuttering funds, restructuring strategies and copious proxy processes are events that ETF issuers want to avoid. The new filing from PowerShares shows an eagerness to dodge the problems that have plagued ETFs in the past. By building a strategy change into the new fund’s prospectus, PowerShares is prepared if the Build America Funds are not extended.

iShares also appears to be taking steps to ensure greater flexibility for its fund managers in the future. As it completes its BlackRock(BLK) transition, iShares has sent proxies to fund holders to get approval for several changes. Among other changes, iShares is asking shareholders of certain funds to approve the change from a “fundamental policy” to a “non-fundamental policy.”

While iShares and its new board do not “currently … plan to make any modifications to the Funds’ investment objectives,” the new “non-fundamental policy” will allow “flexibility to respond to changing conditions in a manner that (iShares and its board) deem to be in the best interests of the Funds and their shareholders without the Funds incurring the cost of a proxy solicitation.”

PowerShares’ acknowledgement of a contingency plan in its new filing is an unusual step that may become the norm. As issuers respond to increased competition, regulatory uncertainty and new methodologies, they will likely continue to push for increased flexibility. Investors must continue to monitor the strategies employed by their ETF holdings, and keep an eye out for changes.

Disclaimer

While I have reported on Warren Buffett’s headline-making investments in companies such as Goldman Sachs(GS), General Electric(GE) and BYD, other, less flashy Berkshire Hathaway(BRK.A) holdings such as Nalco(NLC) may soon be earning the investor additional profit as well.

Nalco was originally founded in 1928 as the National Aluminate Corporation. Since its founding the company has gone through a number of name changes, listings, delistings and a French acquisition. However, today it sits comfortably as the leading provider of water-treatment and process-improvement chemicals, equipment and services. On top of this, Nalco has earned a spot among Buffett’s personal favorites.

While the company appears stable today, Nalco’s volatile past led to the creation of a considerable amount of debt that, until recently, distracted the company from reaching its full potential. However, when J. Erik Fyrwald took control of the company in February of 2008, he made it his goal to turn the company around.

Before joining Nalco, Fyrwald held the position of vice president and general manager of DuPont’s(DD) Nutrition and Health Business. He is a graduate of the University of Delaware with a degree in chemical engineering and, on top of being the chairman, president and CEO of Nalco, he serves on the board of directors for Eli Lilly(LLY).

According to Barron’s, Fyrwald and his team put together a three-year growth strategy aimed at, among other things, reducing costs and chipping away at the company’s debt.

When Buffett and Berkshire Hathaway purchased 8.7 million shares of the company, they did so expecting to see big things in the future. Today, Nalco’s water business is three times the size of General Electric’s, another Berkshire holding.

Water, like razorblades, candy and soft drinks, is a prime example of the simple, easy to understand and boring companies that Buffett prides himself in holding.

Water covers more than 70% of the Earth. However, a mere 3% is the freshwater that we are able to drink. Unfortunately, two-thirds of that 3% is locked up in glaciers and icecaps. This leaves a mere 1% of the Earth’s water that is readily available for human consumption.

Today, an alarming number of nations around the world are at risk or soon to be at risk of freshwater shortages, and the threat does not appear to show any sign of disappearing. In fact, as industrialization and population continue to increase, the number of nations facing shortages is expected to grow. As this occurs, Nalco will be on the front line developing ways to provide relief. The company’s process improvement arm, in particular, is dedicated to discovering new ways to increase productivity with limited impact on existing water supplies.

While Buffett has the capital on hand to purchase a huge percentage of a single water company like Nalco, retail investors have the opportunity to put their money in the whole water industry with a number of exchange-traded funds.

Currently, investors looking for pure-play exposure to water companies have four choices: Claymore S&P Global Water(CGW), First Trust ISE Water(FIW), PowerShares Global Water(PIO) and PowerShares Water Resources(PHO). All four of these funds have a considerable percentage of their portfolio allocated to Nalco. In fact, PHO, the only fund among the group without the company listed in its top 10, still has NLC representing more than 3% of the fund. The company makes up 5.3% of CGW, 5.1% of PIO and 4% of FIW.

While all four funds have seen positive returns year to date, PHO, with an average volume of nearly 300,000, appears to be the most stable of the four funds.

Buffett’s venture into the water business is not a move to be taken lightly. While recent headlines have been littered with news concerning natural gas and oil, the most crucial commodity to our longevity as a species is water. As companies such as Nalco work for a solution to the current water crisis, we all have the opportunity to bank on their success.

Disclaimer

PowerShares WilderHill Progressive Energy (PUW) has led PowerShares WilderHill Clean Energy(PBW) by a wide margin over the past three months. PUW’s return was 19.20% compared to only 0.76% for PBW.

Much of the gap between the ETFs came since the end of July, as PUW’s return rose 12.2% while PBW rose 1.1%.

The stocks among PUW’s top 10 holdings that provided the lift were Clean Fuels(CLNE), up about 50%, along with Owens Corning(OC) and Chesapeake Energy(CHK), up about 30%. Methanex(MEOH) also had a portfolio-outperforming return of just under 20%.

PBW’s fund had similar returns from its top 10 holdings. Fuel Systems(FSYS) had return of nearly 50%, while Echelon(ELON) gained more than 50%. Cosan(CZZ) and International Rectifier(IRF) both gained more than 20%.

On the downside, PUW’s worst performing top 10 holdings were flat, while PBW saw Applied Materials(AMAT) and SunPower(SPWRA) lost ground.

However, the current top 10 holdings don’t tell the entire story. As of June 30, PBW’s top 10 was dominated by solar stocks, including First Solar(FSLR), Yingli(YGE), Evergreen(ESLR) and JA Solar(JASO). Over the aforementioned period, JASO lost 20%, FSLR lost nearly 15%, and ESLR lost more than 5%.

Broadwind Energy(BWEN), the former No. 1 holding on June 30, fell nearly 25% and went from 3.14% of PBW to 2.52% on Sept. 14.

PUW has seen changes among its top 10 as well, but it more closely resembles its June 30 composition. A couple of stocks moved out of the top 10, including Southwestern Energy(SWN) and USEC(USU). However, these were more allocation changes than a price decline, as SWN was flat and USU actually gained 30% over the period.

PowerShares ETFs have performed well in many cases, but investors need to pay attention to the holdings in these funds because they will shift over time — and that will alter results.

Since PUW’s inception in October 2006 (PBW was launched in March 2005), the two funds have tracked very closely, with occasional under- and over-performance, until last fall. From its Nov. 19 low, PUW gained 105% compared to a 71% return for PBW.

Furthermore, PUW failed to breach its low in March, while PBW did decline to a new low.

This pattern of outperformance suggests that the character of the rally favored PUW, or its focus on bridge technologies, ways to improve fossil fuels, and relatively cleaner fossil fuels such as natural gas. That is apparently the winning strategy moving forward.

Jim Cramer has been be beating the drum about the strength of natural gas and talking about why it has been unloved in Washington, D.C.

A change in political fortunes would be a boon to a fund such as PUW because it is the fund for the next 10-plus years, and legislation appears to be moving in its favor. Congress will pass some form of “green” legislation, but it won’t be as draconian as feared because the public, by a wide and vocal margin, doesn’t believe the benefits outweigh the costs.

Meanwhile, at this point, PBW is more like a collection of lottery tickets with a heavy dose of solar. The future is moving in the direction of PBW, but more slowly than investors may like.

Nevertheless, a reversal in energy prices could change the game once again. At $150 a barrel for oil, the technologies in PBW will become much more competitive.

Disclaimer

In the quest to seek out the newest emerging markets, investors have been snapping up shares of exchange traded funds that focus on individual countries like Russia, Vietnam, Thailand, Turkey and South Korea.

Rather than sticking with traditional “BRIC” ETFs, which combine Brazil, Russia, India and China, risk-tolerant investors are looking for new ETFs to participate in emerging markets.

In the first installment of Sick of BRIC? I discussed Market Vectors Russia(RSX) and Market Vectors Vietnam(VNM).

Today’s offering focuses on iShares MSCI Thailand Index Fund(THD), iShares MSCI Turkey Index Fund(TUR) and iShares MSCI South Korea Index Fund(EWY).

Emerging markets funds can be volatile, so a small asset allocation to these funds is appropriate for most buy-and-hold investors.

iShares MSCI Thailand Index Fund

THD is up more than 70% year to date on the strength of its energy and financial-heavy portfolio. The capitalization-weighted portfolio tracks the Thai “slice” of the MSCI Index with the MSCI Thailand Investable Market Index.

As is the case with many global economies, increased spending on the part of Thailand’s central government has helped to pull this country out of the economic downturn. While Thailand’s economy contracted nearly 5% year over year during the second quarter, there was an increase in overall growth of 2.3% from the first to second quarter.

According to The Wall Street Journal, recently released government data suggest that the worst of the financial downturn could be past for Thailand. While risk factors like the swine flu and political uncertainty still hover over this emerging economy, government estimates suggest an expansion of as much as 3% in 2010.

Commodities and financials, the top two sectors represented in the THD portfolio, continue to improve across the globe. As trade and tourism improve, and government spending continues, THD still may have a ways to run.

iShares MSCI Turkey Index Fund

A recovering financial sector has helped to propel TUR up 83% year to date. This highly concentrated fund tracks the MSCI Turkey Investable Market Index, made up of the largest firms in the Turkish equity market. While Turkey’s financial markets still face political uncertainty, positive democratic reforms have helped to promote investment opportunities. Turkey’s domestic demand has been growing, aided by an influx of new manufacturing orders. Increased production has also helped to boost employment.

TUR is an effective way to gain exposure to a basket of Turkish firms, but potential investors should be mindful of concentration in this ETF’s top components. The largest holding in this ETF, Turkiye Garanti Bankasi, makes up nearly 15% of the fund. TUR also has a heavy allocation in the financial sector, which makes up more than 50% of this fund.

TUR is a good addition to an emerging-market portfolio, but should be used along with other funds to provide diversity and stem some of the fund’s potential volatility.

iShares MSCI South Korea Index Fund

South Korea’s currency has dropped significantly against its two main competitors, making the emerging nation both inexpensive and more competitive for exports.

Shares of EWY, which tracks the MSCI Korea Index, are up nearly 60% year to date. Like TUR, EWY is top-heavy in both equity and sector allocation. Top EWY component Samsung makes up 19.11% of this fund, while the fund’s top sectors, information technology, financials and industrials have 29.91%, 17.01% and 15.20% allocations, respectively.

Korea’s strong IT sector has been fueled by demand from China’s consumers. As trade improves, look for South Korea to grow as a global competitor in the IT sector, offering high-quality products at competitive prices.

Funds like EWY, TUR and THD offer unique opportunities in emerging markets. While all emerging economies offer a high risk/reward potential, these country-specific funds help to target areas that have a particularly strong sector. THD and TUR focus on energy and financials; EWY focuses on information technology.

Potential investors must be aware of the increased volatility and concentration that comes with investing in a single-country emerging-market fund. Buy-and-hold investors should keep their emerging market allocation small and mix up their holdings between multiple single-country funds.

Thomas Soviero manages the Fidelity Select Convertible Securities(FCVSX) and Fidelity Leveraged Company Stock(FLVCX), two funds that benefited from the recovery in credit markets, financials and natural resources.

Normally, convertible bonds are a less volatile way to gain exposure to equity. Yields on the bonds pay less, but if the stock price doesn’t rise, investors at least get their principal back. During the panic of 2008, many investors questioned whether these firms would be able to repay their bonds, and with their stocks well below conversion price, there was no help from the equity stub.

The recovery was just as swift. An improvement in credit markets and a sharp rebound in stock prices made convertible bonds attractive once again. Meanwhile, the stocks of many leveraged companies rebounded sharply as the specter of bankruptcy dissipated.

Materials and Financials drive FCVSX and FLVCX

The funds use some overlapping strategies, since companies with convertible bonds are leveraged. For instance, both funds hold assets from copper miner Freeport-McMoRan(FCX) in their top 10, as well as coal miner Peabody Energy(BTU), Bank of America(BAC), ON Semiconductor(ONNN), and chemical producer Celanese(CE-P).

These companies were a hindrance in 2008, when materials and financials were hammered by falling asset prices. Fidelity Convertible Securities lost 47.8 percent last year, while Fidelity Leveraged Stock sank 54.5 percent. Leveraged companies were hard hit by the credit crisis because an inability to roll over debt could send an otherwise healthy company into bankruptcy. Nevertheless, the strategy has paid off in 2009. Through August 31, Convertible Securities gained 49.10 percent and Leveraged Stock advanced 41.97 percent.

Holdings
To learn more about what's driving Freeport-McMoRan and Bank of America, see my video.

Peabody Energy has been a far less volatile stock in 2009. It fell sharply in 2008, losing 63 percent. Its 50 percent gain in 2009 is impressive, but that's about half the broader coal sector's return. Energy prices recovered this year, with oil climbing above $70 a barrel during the summer, but questions remain about the impact of pending legislation designed to restrict carbon dioxide emissions.

Celanese was another big winner for the portfolios, as it has gained more than 100 percent thus far in 2009. The company raised the prices for some of its products in August as market conditions improved, but it still has a long way to go before it can reach its old highs. In early August, the company laid off 100 employees at one plant in North Carolina due to weak demand from the automotive industry.

Semiconductor stocks were particularly hard hit last year, and they staged an equally impressive rally in 2009. A sign of strength for some mining and technology stocks such as ON Semiconductor was that it did not make a new low along with the broader indexes in March, but rather bottomed in mid-November.

The Motorola(MOT) spin-off has been paying down debt this year, a move that has increased the book value of the firm even as assets stay flat. The company has also been aggressively cost cutting to improve earnings at lower revenue points. ON Semiconductor has gained nearly 150 percent this year.

Improving balance sheets is a must for leveraged companies until the credit environment fully recovers. Here is what Morningstar analyst Miriam Sjoblom said of Soviero's approach to Leveraged Company Stock: "While maintaining his concentrated style, he's shown flexibility during the downturn. He's taking a closer look at whether companies are committed to improving their balance sheets, and top holdings like Freeport-McMoRan Copper & Gold and El Paso(EP) have already started down that road."

These are two volatile funds in a volatile period for the markets. Investors should be prepared to see returns take large swings at times, but the larger trend of economic recovery and balance-sheet improvement will strengthen the holdings.

Soviero, like almost all managers, was hit by the financial panic last year, and he suffered for being in asset classes most hurt during the panic. As we come out of recession, however, these are the asset classes that have some of the best chances for appreciation.

Disclaimer

Last week I covered the domestically listed futures ETFs, United States Natural Gas (UNG) and iPath Natural Gas (GAZ). This week I’ll take a look at the stock funds.

There’s a mutual fund and an ETF for natural gas: Fidelity Select Natural Gas (FSNGX) and First Trust ISE-Revere Natural Gas (FCG). FSNGX invests at least 80% of assets in companies involved in production, transmission, distribution and exploration of natural gas, along with companies that provide equipment and services to the aforementioned. FCG invests in companies engaged in the exploration and production of natural gas.

Aside from those mandates, the funds offer a difference in passive vs. active management. FCG ranks companies based on four measures: price/earnings; price/book; return on equity; and the correlation to gas futures prices. It takes into consideration market capitalization and liquidity, ranks the funds, and puts the top 30 into the index. It rebalances quarterly.

FSNGX changes its strategy with the times. Right now, manager James McElligott “has been concentrating on firms with improving cost structures that are focused on growth,” according to Morningstar analyst Jonathan Rahbar, who cites the large holding in Chesapeake Energy (CHK) as part of this strategy. As of July 31, FSNGX held 8.8% of assets in CHK, along with 2.8% in Chesapeake convertibles. (See Cramer’s take.)

With fewer restrictions, FSNGX can overweight portfolio positions and move outside of its mandate with a portion of assets. While its No. 1 holding CHK is 8.8% of assets, the top holding in FCG is Stone Energy (SGY), at 5.5% of assets on Sept. 14. A single stock could grow to dominate FCG, but only for three months at most, due to rebalancing

FCG’s mandate is more restrictive and all of the 30 companies in the fund are involved in exploration and production. FSNGX holds many service and equipment stocks such as Nabors Industries (NBR), Helmerich & Payne (HP) and BJ Services (BJS).

It also holds refiners Valero Energy (VLO) and Tesoro (TSO), coal producers including, but not limited to, Arch Coal (ACI) and China Shenhua (1088.HK), as well as solar stocks such as SunPower (SPWR) and First Solar (FSLR).

In the short time that FCG has traded, it has outperformed FSNGX. In 2008, FCG lost 46.5% compared to a 56.7% drop in FSNGX. Year to date, through Aug. 31, FCG gained 38.4% vs. 38.7% for FSNGX.

In terms of fees, FCG charges 0.60% compared to 0.85% for FSNGX. Additionally, FSNGX charges a 0.75% fee for shares held less than 30 days.

In general, if you’re looking for exposure to natural gas producers, FCG is your best bet, especially because it factors in how well the stocks track natural gas futures. FCG’s “dilution” away from natural gas exposure comes via a few large-cap energy firms that have oil interests, but they do not dominate the portfolio. The flip side is that in times when these stocks underperform, there is little protection because the fund will not diversify out of this narrow mandate.

FSNGX hands over the decision of where to invest. Sometimes, FSNGX may resemble iShares Dow Jones U.S. Oil & Gas Exploration (IEO) or iShares Dow Jones U.S. Oil Equipment (IEZ) more than it resembles FCG. In the past two years, the strategy hasn’t worked, as FCG bested FSNGX, but that isn’t to say it never will.

FSNGX makes sense for investors who do not already own oil services, natural gas and similar funds, and do not want to do the homework of picking betwee

Finally, investors do have one other choice in this space. There is a master limited partnership ETN, JP Morgan Alerian MLP Index (AMJ).

AMJ holds companies mainly involved in the transportation and storage of natural resources (it is not limited to natural gas), though there is also production, exploration, mining, etc. It pays a dividend of more than 7% and offers investors a conservative approach to the sector.

In periods when energy prices are falling, AMJ will be more stable and deliver a solid income stream. When markets turn bullish, however, AMJ will lag FCG and FSNGX by a wide margin.

AMJ has a fee of 0.85%, and because it is an ETN, carries with it the credit risk of the issuer, JP Morgan.

Disclaimer

While President Obama and the Commodities Futures Trading Commission push for greater regulation of the financial instruments at the heart of exchange-traded funds like United States Natural Gas(UNG), investors are suffering the consequences of uncertainty.

In his address on Wall Street yesterday, Obama highlighted the problems with current regulation, saying, “We’ve seen the development of financial instruments, like derivatives and credit default swaps, without anyone examining the risks or regulating all of the players.”

Over the past few months, the Commodities Futures Trading Commission has been examining the role that derivatives-based commodity ETFs, like UNG and United States Oil (USO), have had on the markets they are designed to track.

Managers of these derivatives-based funds are anticipating that position limits may be placed on the number of contracts that each fund owns. This move would effectively limit the growth of the funds, or disable the creation and redemption mechanism that keeps funds like UNG and USO in-line with their underlying value.

In response to the regulatory uncertainty and potential changes, a number of commodities funds have halted creation of new shares. In addition to a voluntary halt by UNG in August, iShares S&P GSCI Commodity Indexed Trust (GSC) and iPath Natural Gas (GAZ) have also halted creation of new shares. Due to regulatory pressure, Deutsche Bank (DB) recently announced the closing and redemption of its PowerShares DB Crude Oil Double Long ETN (DXO). (See Huge ETN Euthanized.)

If Obama’s financial regulation touches upon derivatives-based ETFs, the effects will be felt beyond the realm of commodities funds. Leveraged ETFs like Direxion’s Daily Financial Bull 3X (FAS) and currency ETFs like PowerShares DB Bearish (UDN) also use derivatives to achieve their strategies.

In his speech, Obama noted that, “under existing rules, some companies can actually shop for the regulator of their choice.” While ETF issuers do not actively shop for regulators, the gaps and overlaps in regulatory authorities are evident in the ETF landscape. As derivative-based ETFs have come under scrutiny, different regulators have emerged to comment on different types of funds.

Both the CFTC and SEC have been involved in the regulation of futures-based commodity funds, impacting the funds in different ways. In a conference earlier this month, these two regulatory agencies resolved to put their heads together when it comes to discussing and regulating ETF products.

Leveraged ETF funds, on the other hand, have been the focus of a series of warnings and regulations from FINRA.

A positive result of Obama’s proposals would be coordination between these agencies, especially when it comes to the regulation of similar products. Re-categorization and increased disclosure for derivatives-based ETFs would help investors determine suitability.

It is the current uncertainty, not the threat of regulation, that is hurting ETF issuers and consumers most. As issuers guess at what type of regulation is in the pipeline, they are adapting their strategies on the fly and making moves to protect their funds, even if it results in premiums or discounts for the customer. (See ETF Regulation Battle Bad for Investors.)

Clear-cut regulation would help issuers to develop solid tracking strategies and consumers to pick the right funds for their portfolios.

Disclaimer

The ETF industry added more assets in August, but the pace of net inflows slowed from almost $13.5 billion in July to a little more than $5.5 billion.

Barclays grabbed a huge slice of the pie, with $2.2 billion in inflows, followed by $2.1 billion at Vanguard; Invesco/PowerShares and SSgA added about $1 billion each; and Direxion claimed $0.5 billion. Those numbers were mainly offset by outflows of $1.6 billion at ProShares.

The funds with the largest inflows were iShares S&P 500(IVV), $1 billion; iShares Russell 2000(IWM), $700 million; iShares Barclays TIPS(TIP), $600 million; Vanguard REIT(VNQ), $500 million; and SPDR S&P Energy(XLE), $400 million.

The funds with the largest outflows were iShares FTSE/Xinhua China 25(FXI), $1.6 billion; iShares MSCI Emerging Markets(EEM), $1 billion; ProShares Ultra Dow Jones Financials(UYG), $500 million; ProShares Ultra S&P 500(SSO), $500 million; and SPDR S&P 500(SPY), $500 million.

As we saw in previous months, some of the shift in assets was between funds using very similar, if not the same, strategies. This month, funds flowed out of SPY and into IVV. While EEM lost assets, Vanguard MSCI Emerging Markets (VWO) added $200 million.

Some of the fastest-growing ETFs (inflows relative to assets) were bearish funds. Direxion Daily Small Cap Bear 3X(TZA), which saw $381 million flow into the fund. That was more than the final assets at the end of the month, however, as rising markets ate into returns.

ETF Securities Silver(SIVR) added $93 million in assets on top of the $4 million in July. ProShares UltraShort Silver(ZSL) and ProShares UltraPro Short S&P 500(SPXU) saw rapid growth in assets as well.

Finally, PowerShares DB U.S. Dollar Bullish(UUP) saw inflows of $173 million, bringing assets to $354 million — still less than 50% of year ago August assets.

Some of the ETFs seeing the largest outflows as a percentage of assets included Direxion Daily Financials Bull 3X(FAS), as investors mostly struck a bearish tone in August. SPDR S&P Retail(XRT) saw $245 million flow out, leaving $641 million at the end of the month.

ProShares Ultra Dow Jones Oil & Gas(DIG) saw $166 million flow out, and iShares Netherlands (EWN) saw $26 million exit, leaving $83 million. SPDR KBW Regional Bank(KRE) saw $86 million flow out, leaving $449 million.

The aggregate data confirms what the individual fund data shows. Long-leveraged U.S. equity saw $2.4 billion in outflows, while short leveraged saw $900 million in inflows. Long U.S. equity saw $2.7 billion in inflows.

Global and international equity funds saw $800 million in outflows, while short-leveraged funds saw $95 million in inflows.

Thanks to the assets flowing into VNQ, real estate long ETFs saw $805 million in inflows.

Aside from the short bets in U.S. and global/international equity, almost all asset classes saw inflows across the spectrum of long and short funds, as investors increased their bullish and bearish positions. The exceptions were commodity long-leveraged, with $61 million in outflows and currency short-leveraged, with $5 million in outflows.

The only asset class with net outflows was global/international, with $679 million exiting these ETFs, mainly through FXI and EEM.

Trends to watch for in September will be the flows into gold and silver ETFs after their pop at the start of the month. Based on asset appreciation alone, SPDR Gold Shares(GLD) should have retaken its position as the second-largest ETF, behind SPY.

Also, another trend to watch is whether or not traders continue to pile into bearish ETFs as the rally grows long in the tooth and delivers more losses to the bears.

Disclaimer