Listen and subscribe to Stocks in Translation on Apple Podcasts, Spotify, or wherever you find your favorite podcasts.
Exchange-traded funds (ETFs) are often an essential part of a diversified portfolio, thanks to their low cost, accessibility, liquidity, and sheer quantity.
And as the US enters its third year of a bull market, ETFs have seen record launches and adoption as of late.
From those focused on pet care and “sin” stocks to ones that measure online social sentiment, there is “almost an ETF for everything at this point,” Strategas Asset Management ETF strategist Todd Sohn said on a recent episode of Yahoo Finance’s Stocks in Translation podcast (see video above or listen below).
This embedded content is not available in your region.
So how does one know which ones to invest in?
Sohn recommended adding both large caps and small caps when selecting equity ETFs for your portfolio. This ensures there’s diversification to balance out the more volatile moments in the market.
“Most of my portfolio is going to be in large-cap stocks,” Sohn said. “But there will be times where those take a breather, and you’ll see the more value-oriented corners such as banks, which are very dominant in small caps, assume a leadership role.”
Having a portfolio that utilizes both large- and small-cap ETFs allows for breathing room when those traditionally profitable trades inevitably see a downturn.
“You want to make sure when you buy small caps that you know what’s in the index itself because … some 40% to 50% of [the Russell 2000] is unprofitable,” Sohn cautioned. “These companies do not make money. [They’re] zombie companies.”
“If you’re to play small caps, use a different index provider, like the S&P 600, which at least has a filter for profitability,” he continued. “So you’re going to get higher-quality companies in there. Or you could use an active manager who studies small-cap stocks for a living. And if they do their job correctly, they will find those winning stocks and the investment will perform well.”
Though large-cap ETFs may seem like a more stable way to make returns on your investments, it’s important to have a balance to ensure you’re making the most of your portfolio.
Sohn advised investors to have a plan for what to do when their current investments aren’t performing consistently, especially if the stock market sees a downturn sooner rather than later.
“I think, depending on your time horizon and your risk, it cannot hurt to have some sort of plan,” Sohn said. “You can buy put options or you can review your current holdings and say, ‘I have too much megacap growth, maybe I should sell some of that and put it into small-cap or even international stocks,’ if you’re looking for more diversification. But just have a plan for when that correction strikes.”