Steve McDonald: Hi, everybody, I’m Steve McDonald. This is Your Market Wake-Up Call. The focus this week is what Warren Buffett told his heirs to put all their money in after he checks out. And it’s literally driving hedge funds out of business, or let’s say it’s giving them one heck of a good run for their money: exchange-traded funds (ETFs).

Both John Bogle of Vanguard fame and Warren Buffett agree: One of the most important variables to control in investing is cost, and that’s one of the many areas where ETFs really shine. The average mutual fund costs 1.42% per year. Now, that’s not exorbitant, but it’s sky-high compared with the average ETF fees of just 0.53%. And a blended portfolio of ETFs can get costs as low as 0.09% – that’s stupid cheap! My first mutual fund back in 1983 cost me 8% for contributions and reinvestments.

But what is more encouraging than the cost is that most investors who have flocked to them have done so with the idea that there is a virtual guarantee in ETFs, especially the market weighted ones. It’s sort of an “all you have to do is leave them alone” guarantee. And when the market moves up – which it always has – you make money.

Now, obviously, nothing in the market is truly guaranteed, but ETFs properly applied come very close. I could go on and on about the benefits of these market monsters, but let’s get our ETF Strategist Nicholas Vardy on to talk about some of the things that people miss and, as a result, aren’t making all the money they can with them.

Nicholas has been a regular commentator on CNN International and Fox Business Network. He has also been cited in The Wall Street Journal, Newsweek, Fox Business News, CBS MarketWatch, Yahoo Finance and MSN Money Central. This is one busy guy, and he’s a smart guy too. He earned a B.A. and an M.A. at Stanford in just four years, and then – that wasn’t good enough – he went to Harvard Law.

People like you make me feel so ineffective. I feel pretty successful, but when I look at your résumé, it’s ridiculous. Congratulations.

Nicholas Vardy: Thanks so much, Steve.

Steve McDonald: First up – most people are familiar only with the market weighted S&P 500 or similar broad market ETFs. But there are actually entire strategies employing multiple ETFs that can really boost returns. Can you talk about the strategy end of ETFs?

Nicholas Vardy: ETFs are a remarkably flexible investment vehicle. They allow you to invest in pretty much anything. You can invest in stocks, in bonds, in commodities and in currencies, and you can also track a wide range of investment strategies. Now, both you and I know that both assets and strategies go in and out of fashion. One year, it might be biotech stocks that are red-hot; the next year it might be growth investing that’s red-hot.

The good news is that ETFs offer strategies for each of these opportunities. And what I like to do is to invest and put together portfolios of these very strategies and really allow investors to maximize their returns using them.

Steve McDonald: One of the things I’ve always wanted to ask an ETF expert is, can these things be used as leading, lagging or concurrent indicators?

And I’ll tell you why I ask. The real estate market, obviously, has been very hot for the past few years, and right now, some of the biggest inflows to ETFs are to real estate funds. And they cover every possible corner and crevice of these markets. Have you looked at them as a possible predictive tool, or do they have any value as a lagging/leading indicator?

Nicholas Vardy: You point out something very important. If you look at the various asset classes and strategies out there, you can really get insight into what the market is about to do. And, in fact, great minds think alike. I follow these ETFs on something I call the “Money Matrix.” It literally allows me to look at thousands of ETFs every single day. And just looking at the Money Matrix this morning, U.S. ETFs focusing on real estate are actually entering a period of high momentum. And it’s an area that I’m going to be looking for to make new recommendations for subscribers to my Oxford Wealth Accelerator service.

So the short answer is yes, it’s important to look at all of these aspects, and real estate is among the hottest asset classes right now.

Steve McDonald: One of the things that caught my attention when I was reading through your material is your “smart beta” portfolio of ETFs. This has beaten the market, correct me if I’m wrong, by between 1% and 2% a year. Is that correct?

Nicholas Vardy: That’s correct, yes.

Steve McDonald: It’s something I know our readers want to know more about. Can you talk about the “smart beta” portfolio?

Nicholas Vardy: Well, thanks very much for asking, Steve. It’s actually one of my favorite topics. As you know, there are many people out there who speak about different ways to beat the market. Some of them focus on momentum investing, others focus on value investing, still others focus on stocks that insiders are buying.

Well, the truth is all of these strategies work, but they work at different times in the investment cycle. Now, each of these strategies alone tends to beat the market by about 1% or 2% a year. What I’ve done with the Strategic Portfolio is use ETFs to assemble a portfolio of about 10 of these different investment strategies that, averaged out over the long term, allow you to generate these 1% to 2% outperformance rates over time.

Now, 1% to 2% a year doesn’t sound like a lot, but over time, it can make a tremendous difference to your accumulated wealth.

Steve McDonald: Oh, 1% to 2% is a lot. If you assume that the market’s returned an average of 7%, if you can get 8% or 9% from it, that’s a big bump. That’s a lot of money.

Nicholas Vardy: Absolutely. I like to think of it as a portfolio of strategies as opposed to a portfolio of stocks, and that’s really the edge that I have in assembling this particular portfolio of strategies.

Steve McDonald: Well, let me ask you about one particular group. I know most of our Members always look at precious metals and industrial metals. Metal ETFs are a way to play those – gold, silver, even things like palladium. How have they performed? Do they actually track the market accurately?

Nicholas Vardy: They track the market accurately, and in fact, in my Tactical Portfolio, which really focuses on more short-term gains, I actually have two precious metal ETFs. One of those precious metals is in a long-term bull market, so we’ve held on to that and made some very good gains. The other one is probably the most famous precious metal out there, and it highlights one of the advantages of ETFs in that it’s a triple leveraged ETF. 

So it takes whatever gains you have in that precious metal and triples them. Each of these positions now has generated double-digit gains, and it really highlights the kind of flexibility that ETFs can offer people who invest in them.

Steve McDonald: Here’s the last thing I’d love to have you comment on. I mentioned the virtual guarantee – that people buy these ETFs with the idea of all you have to do is leave them alone. How did they fare in the big sell-off last December? Overall, how did your portfolios hold up as compared with, say, the 20% loss we saw in the S&P?

Nicholas Vardy: Again, the “smart beta” strategies have different defensive characteristics. So, for example, the ProShares S&P 500 Dividend Aristocrats ETF (CBOE: NOBL), which is one of our recommendations, tends to fare particularly well during strong market sell-offs. In contrast, the momentum strategies tend to fail particularly poorly. Again, that’s why it’s important to balance out these strategies in a portfolio of strategies to really get that 1% to 2% outperformance over a long period of time.

Steve McDonald: That’s fantastic. Listen, I know you’re in London. Is that correct?

Nicholas Vardy: That’s correct.

Steve McDonald: One of my favorite places in the world. I want to thank you so much for taking the time to be with us.

Nicholas Vardy: Thanks for having me, Steve.

Steve McDonald: It’s my pleasure. And for everybody here, take a look at what Nicholas is doing. I realize he’s in London, but we’re going to give him a break anyway, guys. There’s a link below with some of his information – I highly recommend you take a look at it. It’s a great way to play the market. 

Again, thank you so much for being a part of this. And for everybody here at Market Wake-Up Call, I’m Steve McDonald, and I’ll see you next week.

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