4 reasons you should avoid ETFs tracking the entire US market

Business Insider | 1/3/2018 | Olivier Garret, Mauldin Economics
JimmyJoe (Posted by) Level 3
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The amount of money that's flowed into ETFs tracking the benchmark S&P 500 is concerning.

These funds provide minimal diversification, making continued investment in them highly risky.

Decade - Global - Financial - Crisis - Investors

A decade after the Global Financial Crisis, investors seem to have forgotten about risk.

The amount of money that has flowed into S&P 500 ETFs in recent years concerns me. With little regard for valuation, investors just continue to pump capital into ETFs that track the main index.

Years - S - P - ETFs—SPY - IVV

Over the last three years, $100 billion has flowed into the three largest S&P 500 ETFs—SPY, IVV, and VOO. This year alone, investors have pumped in around $50 billion.

That’s a staggering amount of capital at a time when the market looks overpriced and ready for a pullback.

S - P - ETF - Time - Contrary

If you’re invested in an S&P 500 ETF, it’s time to be careful. Contrary to popular belief, these broad ETFs provide minimal diversification.

At the same time, they expose investors to some of the most overvalued stocks in the world.

Here’s why.

The S&P 500 has risen in a straight line in 2017.

Record - Low - Levels - Volatility - Index

With record low levels of volatility, the index has returned nearly 20% this year. This rise has pushed the market’s valuation up to dangerously high levels.

Yet it’s not just the overall valuation of the index that looks too high. It’s the eye-watering valuations of some of the largest stocks within the index.

Look - FAANGs - Example

Look at the FAANGs, for example.

These stocks have rallied hard in 2017, and several now trade at insane valuations.

Amazon - P/E - Ratio - Netflix - Trades

Amazon has a P/E ratio of 300. Netflix trades on 190. Facebook and Google trade at P/E ratios of around 35. The FAANGs are priced for perfection right now. These valuations leave little margin for error.

Even worse, the FAANGs make up an increasingly large part of the index. Over the course of 2017, the index weight of these five stocks has increased from under 9%,...
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