High Risk, High Reward: Jon Najarian's Top 3 ETF Plays for 2013
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The world’s largest ETF conference is being held this week here in warm and sunny South Florida, attracting some of Wall Street’s best minds away from New York during the frigid winter months.
IndexUniverse.com, self-labeled as the leading independent authority on ETFs, indexes, and index funds, is hosting its annual “Inside ETFs” Conference from February 10 - 12 at the Westin Diplomat in Hollywood, Florida.
My former mentor and advisor, Jon Najarian, is attending the conference and recently presented his three best ETF ideas for early 2013 on CNBC’s Fast Money financial television show. I worked as a summer associate for both of the companies he co-founded, optionMONSTER and tradeMONSTER in Chicago, IL, preceding my junior year in college.
Here are the three ETF plays that my former advisor Jon Najarian recommended live on television on February 11:
Direxion Daily Real Estate Bull 3X ETF (NYSEMKT: DRN)
Direxion is well-known for offering leveraged ETFs that offer high-beta market exposure to both the upside and downside. In this case, Najarian introduces the company’s Daily Real Estate Bull 3x product, which seeks to return 300% of the MSCI US REIT Index during the time period of a single day.
Year-to-date, Direxion’s 3x leveraged real estate product has risen 15% through February 11, compared to its benchmark MSCI US REIT Index which has risen 4.9%.
Najarian labeled DRN as “perhaps the most speculative investment in the most speculative area of the stock market.” Real estate stocks have been on a tear in recent months, as demand for commercial and residential properties across the United States is supporting a market rebound. Homebuilders have also risen significantly, as the Federal Reserve’s low interest rate policy is motivating buyers to purchase new and existing homes.
Direxion’s 3x real estate fund trades about 134,000 shares per day, providing ample liquidity for the retail investor. More information about this product is available on Direxion’s website.
In other news, Direxion recently settled a lawsuit for $8 million related to claims by investors that it did not adequately disclose risks related to its inverse ETFs.
JP Morgan Alerian MLP Index ETN (NYSEMKT: AMJ)
JP Morgan’s Alerian MLP exchange-traded note provides investors with exposure to midstream energy MLPs. Midstream refers to the processing and storing of oil and natural gas, and the MLP tax structure enables this fund to distribute profits to shareholders through its 5.4% yield.
Overall, I am a strong advocate of energy MLP investing for portfolio diversification, as evidenced by my piece Income Investing: High Yield Bets on Natural Gas Transportation. Energy MLPs offer solid growth, given the build-out of our nation’s energy infrastructure, as well as low correlation with the broader market.
The largest holdings in the Alerian MLP are Enterprise Products Partners, Kinder Morgan Energy Partners, and Plains All American Pipeline. Shares of AMJ have risen about 12.5% year-to-date through February 11. Investors have piled back into energy MLPs in recent weeks after concerns related to higher taxes and the fiscal cliff motivated a large sell-off in late 2012.
AMJ trades about 1.4 million shares per day, providing plenty of liquidity for the individual investor. In addition, options are available on AMJ which enables long-term investors to sell covered calls against their investment position.
Health Care SPDR (NYSEMKT: XLV)
This “Spider” ETF offered by State Street Global Advisors represents a standalone portion of the S&P 500 index specifically related to health care companies. In other words, investors have sole exposure to healthcare-related stocks in the S&P 500, and not other sectors, such as financials or technology.
Johnson and Johnson, Pfizer, and Merck are the three largest holdings in the XLV, collectively representing more than 30% of the investment portfolio. On a fundamental basis, health care has historically been considered a defensive sector. The sector also has strong growth prospects and would likely be less affected in the event of a broader market pullback. Valuations are supported by solid dividend yields.
Bank of America’s chief technical analyst, Mary Ann Bartels, believes healthcare is entering a “new bull market" on a long-term technical basis. The sector is breaking out to new all-time highs and she concurs that valuations are still attractive.
Considerations for ETF Trading / Investing
When considering an alternative investment vehicle such as an ETF / ETN, investors need to pay attention to the average daily volume before making a purchase decision. A good rule-of-thumb for retail investors is to ensure that their prospective fund has at least 100,000 shares traded on a daily basis. Otherwise, the bid/ask spread on the market becomes too wide. Liquidity is always important but becomes less critical the longer your duration.
Out of the three recommendations, DRN has the highest risk for numerous reasons. In addition to the triple leverage, investors need to be concerned about time decay. Direxion is able to offer the 3x performance of the underlying index due to the derivatives involved, and this causes the share price to erode over time. DRN also has the lowest average daily volume among the group.
Foolish Bottom Line
In conclusion, I believe AMJ and XLV are clear winners for long-term investment. Energy MLPs and health care are two important areas for portfolio diversification. In contrast, I would exercise caution with DRN, given the risks involved and significant performance we’ve already seen in real estate.
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