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Market's oddest investing ideas put to the test

With more than 1,600 ETFs available for purchase in the U.S., one of the daunting issues investors face is one of quantity: Just because there's an ETF for something doesn't mean you should buy it, said Robert Goldsborough, a Morningstar fund analyst.

Many niche ETFs have only a few million dollars in assets under management—asset size can have a big impact on an ETF's ability to track an index and trade efficiently. Smaller ETFs also have a history of disappearing rather quickly if they don't gain traction with investors.

Many of the trends that the niche ETFs are chasing are actually part of boom-and-bust cycles—meaning they could suffer at the wrong time—shortly after the ETF is created. Or they can be too early to capitalize on a long-term trend.

John Shepherd | Vetta | Getty Images

Consider the Market Vectors Rare Earth and Strategic Metals ETF (REMX). Launched in October 2010, it targets special industrial metals that are hard to extract and are used in everything from from flat-screen TVs to electric cars and jetliners. The market boomed when China—which produces a majority of rare earths—tightened controls over export in 2009. Many people thought that these commodities would continue to see their prices skyrocket, but this ETF is down about 57 percent since its launch—it peaked in April 2011, and it's been all downhill since then.

The rare earth metals ETF could still be a good long-term bet—providing a niche way to target the global adoption of personal technology—but it also gave us the idea to put some of the newest oddball ETFs to the recent performance test, because ETFs aren't just getting into more market niches but slicing those niches finer.

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We've taken three niche ETFs—LocalShares Nasville Area ETF (NASH), the Forensic Accounting ETF (FLAG) and the Global Robotics & Automation Index ETF (ROBO)—and looked at what they target and whether it's worked so far. All three ETFs were launched in 2013.

Who will win the battle of the oddball ETFs? One ETF will be eliminated in each prelimary round; the other two will move on in the Battle of the Oddball ETFs to face new challengers in subsequent rounds.

All ETF performance figures through June 26.

To catch a corporate thief—with an ETF

1. The Forensic Accounting ETF (NYSE: FLAG)

  • Net assets: $15.8 million
  • Year-to-date return: 6.8 percent
  • One-year return: 15.2 percent (21)
  • Inception Date: January 30, 2013
  • Expense ratio: 0.85 percent

Most investors have no idea if a company's accounting practices are on the up and up, but Edmond, Oklahoma-based Index Deletion Strategies thinks they should.

The company, which created this ETF, said on its website that "some companies have used 'red flag' tactics such as aggressive accounting to make their financial statements appear significantly better than the current state of their underlying business. This distortion can potentially put investors at risk."

Its universe is based on the 500 largest-cap U.S. stocks. The index provider performs a forensic accounting analysis of all of these companies' financial statements and then gives them a grade from A to F. The worst-graded stocks are not included in the fund. According to the company, 40 percent of its holdings have an A grade, while B, C and D grades each account for 20 percent.

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Robert Jenkins, global head of research at Lipper, a mutual fund data company, said that a lot of the companies in this fund, such as AT&T, Berkshire Hathaway and Coca-Cola, are high-quality businesses. "So it's not a bad strategy," he said.

This fund is perfect play into the U.S. large-cap asset class, even if it uses a funky method to determine exactly which companies it holds and in what weights. It is very similar to the SPDR S&P 500 (SPY) or any fund tracking the S&P 500. So really, FLAG isn't much of an oddball fund, after all—only in name.

And you might be better served just buying a broader-based ETF. Out of FLAG's 400 stocks, 365 of them are in the Vanguard Large-Cap ETF. That fund costs 0.09 percent, while FLAG comes with a 0.85 percent fee.

Capitalize on the budding robotics space

2. Global Robotics & Automation Index ETF (NASDAQ: ROBO)

  • Net assets: $100 million
  • Year-to-date return: 0.5 percent
  • Return since inception: 8.6 percent
  • Inception Date: October 22, 2013
  • Expense ratio: 0.95 percent

If you believe that robots will one day take over the world, or maybe just that factories, warehouses and other workplaces will be more automated in the future, then this is the ETF for you.

This fund, created by Dallas-based Robo-Stox, gives investors a chance to capitalize on the budding robotics space.

There are some well-known operations in here—Siemens AG, Mitsubishi Electric and Northrop Grumman to name three—and the fund is weighted toward two sectors: 48 percent of its holdings in industrials and 35.6 percent in technology.

The fact that it already has nearly $100 million in assets is a good sign—in fact, it is far and away the winner in attracting assets among these three oddball ETFs—but its return leaves much to be desired, said Todd Rosenbluth, S&P Capital IQ director of ETF research

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The challenge is that it's the most difficult to classify, since it's attacking a niche that doesn't really exist as a stand-alone industry. It is not like the semiconductor niche within technology, which is a well-established sub-industry of technology and is recognized as such by investors. There is no "robotics" sub-industry, according to ETF.com researcher Spencer Bogart, so ROBO gets lumped together with other technology ETFs that draw their constituent companies from anywhere in the world.

ROBO's holdings include Accuray, a company that builds image-guided radiosurgery devices and venerable U.S. brand Deere. These are big companies that investors may not think of as being "robotics" companies.

So what exactly is robotics? Is it more of a buzzword than an industry? Does it include anything that is automated (after all, that's what a robot is), in which case that opens up a ton of automated manufacturing or other potential companies? The ETF's manager states, "We generally view robotics as autonomous systems that interact physically with the external world."

Pork shoulder and the Grand Ole Opry in an ETF

3. LocalShares Nasville Area ETF (NYSE: NASH)

  • Net assets: $6.9 million
  • Year-to-date return: 1.5 percent
  • One-year return: 8.7 percent (23)
  • Inception Date: July 31, 2013
  • Expense ratio: 0.49 percent

This ETF tracks an index of Nashville-based companies, and while there are some brand-name businesses—Dollar General and Cracker Barrel—many of these operations will be unfamiliar to most investors, meaning almost anyone not from Nashville.

"This might be appealing to someone from the Nashville area," Rosenbluth said. "But just because there's an ETF doesn't make it a good place for investors," he said.

Not only will you be heavily concentrated in one city if you own this, but you'll also be heavily weighted to one sector: NASH has 38 percent of its assets in the health-care space. It's also still small, at $7 million in assets, which means it could fizzle out if not enough people buy in.

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But there's a defense to be made of this ETF's country twang: It's only odd in that it targets such a specific portion of the U.S. Other than that, it's trying to provide fairly broad exposure to Nashville-area companies, including health care. In that sense, it isn't much different than the fairly broad group of single-country ETFs now on the market.

Take the Market Vectors Vietnam ETF (VNM). Vietnam's economy is also very small. To put it in perspective, Vietnam's GDP is about $140 billion, and the GDP of the greater Nashville area is about $100 billion, according to ETF.com's Bogart. So the only funky thing about classifying this fund is its geography, and geography is already an accepted way to create fund products. And by the way, the Vietnam ETF has returned 9.6 percent in the past year. NASH? 8.7 percent.

Some in Texas talk of seceding from the country with its oil and gas. In California—with its high-tech boom and a GDP to rival most nations—there is also talk of a separate economy. And cities across the country are investing greater amounts in innovation as part of economic development plans, so slicing up the U.S. equities market into smaller geographic pieces may not be such a crazy idea after all, even if NASH's performance has been mediocre.

The eliminated ETF

All three ETFs have trailed lower expense, broader index ETFs at expense ratios that could make it difficult to justify investment, but in the final analysis, sorry, ROBO, you're replacing jobs but not other oddball ETFs (at least, not yet).

On behalf of all Luddites, we think the jury is still out on this concept as one that can be truly defined in an ETF context. ROBO has been the big winner in attracting assets—though that's no surprise with the popularity of tech.

It's hard to make exact comparisons, but FLAG is a large-cap fund, and it's returned 15 percent in the past year, compared with a 21 percent return for the SPDR S&P 500 ETF. NASH is really a U.S. small-cap equity fund, and its 8.7 percent return compares to a 23 percent return for the Schwab US Small Cap ETF (SCHA). ROBO's 8.6 percent return since inception compares to a 13.2 percent return for the PowerShares QQQ technology index ETF—an imperfect comparison, but that's ROBO's challenge. And if we compare ROBO to the Vanguard Industrials ETF (VIS), it fell short of the industrials sector's 12 percent return since the ETF's inception data. It also has the highest expense ratio of the three ETFs.

In the world of the tech utopians, every trend is always "five to 10 years out" from changing the world—that includes driverless cars and flying cars and the like. We may wait another five to 10 years before deciding that it's time to put robots alongside the Nasdaq 100.

Speaking of the five to 10 year outlook, we did ask for a "consolation match" response from the ROBO-Stox management team, and they suggest waiting five to ten years will mean missing out on the big returns.

By email the ROBO-Stox team said, "Almost every research report forecasting the next 5-10 years shows the following:

  • Industrial robotics worldwide is growing at a 9 percent compound annual growth rate .
  • Non-industrial robots in general are growing at 17+ percent
  • Mobile robots are growing at 12.6 percent
  • Consumer robotics at 17 percent
  • Underwater robotics at 11 percent
  • Surgical robotics at 13 percent

They also noted, "The index was created precisely because there was no relevant benchmark available. ... Robotics and automation began primarily in the industrial sector, as such, a large portion of the publicly traded robotics companies still fall within this area of the market ... The index continues to add new non-industrial companies within the health care, energy, and information technology sectors. While 50 percent of the index falls within the industrial sector, we believe that balance will ultimately change to less than a third.

"The objective is not to pick winners and losers, but instead be as inclusive as possible. This is the best approach for an industry in its early stages. There will be tremendous creative destruction to come," ROBO-Stox management wrote.

[Correction: This story has been revised to reflect that Deere and Accuray are holdings, not top 10 holdings, in the Global Robotics & Automation Index ETF. Industrials and technology stocks comprise approximately 83 percent of the ETF, with no financial services or utilities holdings. The ETF's performance versus the Vanguard Industrials ETF and PowerShares QQQ ETF is relevant since its inception date on October 22, 2013, not the previous one-year period.]

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