In HOLDRs, Seek Alternatives to Outdated ETFs

Editor's Note: Paul Weisbruch is the vice president of ETF/Index Sales and Trading at Street One Financial, an ETF liquidity provider focused on quality trade execution as well as portfolio construction and product strategy in the ETF space.


The Merrill Lynch HOLDRs lineup of funds is well known in the ETF industry and has been around since 2000. They carry name recognition and are used by many investors and portfolio managers, especially those in the institutional and hedge fund space. Semiconductor HOLDRs (SMH), Oil Services HOLDRs (OIH), and at one time Internet HOLDRs (HHH) were familiar monikers on sell-side trading desks as well as those of buy-side managers. The HOLDRs suite of products still retains a respectable amount of assets as well, more than $5 billion in total AUM, and stands as the number 11 ETF issuer overall in terms of assets under management according to my firm's report, published in early May.

Here are the issues with the products as we see them however. When the HOLDRs were conceived, ETFs were still in their infancy, with only a handful of broad-based index products available to investors, such as S&P 500 SPDR (SPY). Their launch allowed investors to make specific sector bets, whether it be Semiconductors, Oil Services Stocks, Internet Infrastructure, etc. This was indeed a unique offering at the time.

The problem as I see it is that these products were constructed a decade ago and serve as "fixed lists" in that the securities that make up the underlying portfolios of each HOLDRs product are dated in many cases, and there's nothing that anyone can do about this. Take B2B Internet HOLDRs (BHH) for instance. It has two, count them, two holdings as the underlying: Ariba Inc. (ARBA) and Internet Capital Group (ICGE). No doubt, many of the holdings that existed in 2000 have vanished into obscurity as a great number of Internet companies have gone by the wayside. BHH was a relevant fund at one time, but not in this era, as the market and industries of relevance have changed over the past 10 years.

The HOLDRs products can't rebalance and are limited to the way they were set up upon inception, so if their underlying stocks disappear, merge, or simply become irrelevant due to perpetual underperformance, the products themselves become irrelevant. That doesn't, however, stop portfolio managers from using them it seems. Semiconductor HOLDRs is still seen as a proxy for the Semiconductor space, which many still follow as an indicator of the health of the PC market and technology sector in general. But does SMH really give investors diversified exposure to the Semi industry? Judge for yourself. SMH is composed of 23% Intel (INTC), 19.5% Texas Instruments (TXN), and 12% Applied Materials (AMAT) (more than half of the portfolio concentrated across three stocks).

Oil Services HOLDRs is another good example, as my firm still finds a fair amount of portfolio managers using this ETF for their "Oil" exposure. Don't let the name fool you, as OIH doesn't give investors direct exposure to the price movements of a barrel of oil, but instead is invested in a pre-set list of Oil Services stocks -- 13.3% Transocean (RIG), 13.1% Schlumberger (SLB), 11.6% Halliburton (HAL), 8.5% Baker Hughes (BHI) -- and is at the mercy of the swings of the market as far as "re-balancing" the portfolio because there's no inherent re-balancing mechanism within these funds. (For more on OIH, click here.)