Biggest Bargains in ETFs

The financial markets have been on a wild ride the past few weeks as investors worry that the mess in subprime mortgages will lead to an overall credit crunch and, eventually, a recession.

For now, at least, it looks as if that fate will be avoided.

So with stocks a lot cheaper than they were just a few weeks ago, bargain-hunters are out in force. But what is really a bargain, and what was really overpriced to begin with and now is just slightly less so?

First, let's examine how much some of the major exchange-traded funds have been marked down.

The table below shows the change in price between the recent highs, reached on July 19 and August 31, for select domestic and international ETFs.

A Bargain, or Just Less Expensive? Change in price since market peak on July 19.
Ticker	Fund Name	Price 8/31/2007	Change vs. 7/19
SPY	S&P 500 SPDR	147.59	-4.80%
MDY	S&P 400 MidCap SPDR	157.05	-6.30%
IWM	iShares Russell 2000	78.74	-6.90%
EFA	iShares MSCI EAFE	78.42	-5.80%
EEM	iShares MSCI Emerging Mkts	133.95	-4.90%
Source: ETFResearchCenter.com

The large-cap S&P 500 SPDR (SPY) fared better than did ETFs that track small- and mid-cap stocks. But surprisingly, it is ETFs of foreign stocks -- precisely those that, for the most part, have nothing to do with our subprime mess -- that are still down the most.

The iShares MSCI EAFE(EFA) ETF, which tracks foreign stocks in developed economies, was down 11.2%, while the iShares MSCI Emerging Markets (EEM) fund was down as much as 15.9%.

Is this a buying opportunity? I think so, but of course there's more to bargain-hunting than just buying the funds that are down the most and hoping that they'll be the ones to bounce back the most.

Some of them are down as a result of "irrational apathy" on the part of investors, while others are down for good reason.

For instance, among domestic funds, you would expect that small- and mid-cap stocks would suffer more in a credit crunch, since they generally have weaker balance sheets and are less able to weather a funding crisis. Therefore, if a general credit crunch is not going to materialize, then it would seem logical that these stocks would snap back.