ETF Explosion Overshadows Benefits of ETNs

During the first six months of 2009, iPath India ETN returned 54.7%, while PowerShares India ETF returned 46.7%, according to Morningstar. Can the ETN lead over the long term? That's hard to know. But the ETN clearly has an advantage for investors in taxable accounts.

Make no mistake, ETNs come with special risks. The iPath ETN is backed by Barclays, which sold its ETF business to BlackRock(BLK). (ETNs weren't part of the deal.) So if the bank defaults, the notes could be worthless. Investors learned about this risk last fall when Lehman Brothers went under and defaulted on $15 million worth of exchange traded notes. Seeing Lehman's collapse, investors dumped ETNs of all kinds. But these days, major ETN issuers -- including Barclays, Deutsche Bank(DB) and HSBC(HBC) -- seem to be in sound shape. Confident about the outlook, money is flowing back into ETNs, which now hold $5.8 billion in assets.

A year ago, the tax advantages of ETNs came under assault. Mutual fund companies urged Congress and the IRS to change the tax status of ETNs. But the IRS has made no pronouncements on the issue. Now that Washington faces a welter of economic problems, it seems unlikely that the IRS will have the time or inclination to focus on ETNs.

For investors seeking exposure to commodities, ETNs offer access to attractive benchmarks. A solid choice is iPath Dow Jones-AIG Commodity Index Total Return ETN(DJP). This tracks a broad collection of 10 assets, including oil, copper, aluminum and soybeans. As an alternative, you could try an ETF, PowerShares DB Commodity Index Tracking Fund(DBC), which invests in five assets, including oil, gold and corn.