Alternative Energy ETF's - The Perfect Format?

Al Gore launched the internet and now he can take credit for the alternative energy craze. Hopefully he will find some humor in that. The explosion of alternative energy/green stocks has created a new sector in the market. Of course this has given an opening to exchange traded funds to take advantage. A new sector of course needs new ETFs to sort and package all those stocks for investors. With some of them launched and in the marketplace the challenge becomes understanding how they were built and will they accomplish your objective as an investor. So I set out to do just that find out what's under the hood. I am going to start with Solar Energy since there is plenty of news surrounding this area of late. In future interviews we will visit other pieces of this alternative energy craze.

First stop, Market Vectors who launched April 24^th the Solar Energy ETF (KWT). With the symbol KWT they have the slogan, "kilowatts for the future". According to Market Vectors the fund will track the Ardour Solar Energy Index, SOLRX. The fund and index is global in nature focusing on companies which derive at least 66% of revenues from solar energy. Based on the current holdings of the fund these companies derive in excess of 90% of their revenue from the solar industry. The requirement for ownership in the fund is restrictive, but according to Market Vectors that makes the ETF a more "pure play". For a complete breakdown of the holdings you can visit their website. 

Second stop, Claymore who states they launched the first Solar ETF with the slogan "Go Green, Get TAN". Of course (TAN) refers to the symbol for the fund. With a launch data of April 16^th they beat Market Vectors by one week. While that makes for a fun discussion I want to know what's in the fund. Claymore chose to use the MAC Global Solar Energy Index. The fund is global as the index indicates, but uses ADRs (American depository receipts) and GDRs (global depository receipts) as the investment vehicle of choice. These companies are screened by the criteria of having at least 33% of their revenue from the solar industry. If the companies derive greater than 66% of their revenue from the solar industry they are equally capital weighted to the index. If they derive 33-66% of their revenues from the solar industry they are weighted at 50% of the full market capitalization. For a complete breakdown of the holdings you can visit Claymore's website. 

The question begs which is the better ETF for playing this alternative energy source? They both have their advantages relative to how they are weighted and diversified. If you were to dig through both indexes and their respective weightings, the Ardour Solar Energy Index based on the discipline for determining the holdings is more of a ‘pure play'. So it would get the nod from that view. However, since it is more a pure play it will innately have more risk due to the more concentrated exposure. Conglomerates are more diversified and therefore buffer the swings in volatility in such a new sector of the market. So as an investor it is best to determine your risk tolerance prior to investing.

 To bring this to a conclusion, you first have to decide if this is a sector you want to invest money. With the sector having grown significantly over the last 12-24 months measuring the risk relative to the reward is vital. The current P/E ratio on the Market Vectors fund is over 60 while the Claymore fund is over 40. Neither number gives you a feeling of being on sale. They are expensive on a relative basis, but growth is accelerating along with demand. If you can handle the volatility and you have a strategy for managing any holdings in either fund, go for it. If you have no strategy for managing the risk, stay away.

 Both funds offer a unique opportunity to invest in a new and growing sector and both providers did a good job of representing the sector with diversification.