New ETFs abound

NEW YORK – Is it possible to build a better index? A handful of contenders are trying.

With broad indexes usually beating actively managed mutual funds, investors have turned to exchange traded funds, or ETFs, which generally charge low fees and seek to mirror the return of a particular index, as a cheap way to get winning returns. A few of the ETFs have become behemoths. For instance, Spyders, which mimic the Standard & Poor’s 500, had a market capitalization of roughly $57.4 billion at the close of trading Tuesday.

The market for ETFs has boomed in the past 10 years, growing from $1.05 billion in 1995 to $296 billion in 2005, according to the Investment Company Institute, the mutual fund industry’s trade group.

Who wouldn’t want a piece of this business?

Hopefuls are crowding in with the new indexes they’ve built. They range in size from Capital Markets Index, which bills itself as “the first and only measure of the total value of U.S. capital markets” including “all investment grade U.S. stocks, bonds and money market investments, and the actual asset allocation among them.”

Then there are the fundamental indexes, where two companies are making the biggest push. In capitalization-weighted indexes, like the S&P 500, the greater the company’s market capitalization, the greater its weight in the index. In fundamental indexing, the indexes’ creators come up with another formula, which gives more weight to a company’s financial performance than its stock price.

The emphasis on stock price in most indexes is “how a stock like Google can become the 20th largest position in the S&P 500 even though its current revenue, earnings and book value wouldn’t even place it among America’s top 200 companies,” the July issue of “The No-Load Fund Investor” explained.

In fundamental indexing, the indexes’ creators came up with another formula.

Wisdom Tree Investments, which introduced 20 fundamentally weighted ETFs in June, weights its indexes on stocks’ dividends paid. Its aim is “to passively outperform traditional benchmarks,” said Bruce Lavine, the company’s president and chief operating officer.

The company’s ETFs, which trade on the New York Stock Exchange, have attracted more than $400 million in assets in their first seven weeks of trading, according to the company.

The other big player in fundamental indexing is Research Affiliates LLC. Its indexes weight companies according to earnings, revenue, dividends and book value. Book value is a company’s assets minus its liabilities.

Sounds great. Why might investors hesitate? One thing that might give you pause is just how new the indexes are. While ETFs from both Wisdom Tree and Research Affiliates point to back-tested data to say what investors’ returns would have been if they had used the companies’ methodology in the past, that may not be as reassuring as actual historical data.