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Funds Fall From Favor

Exchange-traded funds have grabbed much of the spotlight among institutional investors, in the past decade.

From $66 billion in assets at the end of 2000, these new-fashioned funds now hold more than $1 trillion of investor capital.

Their biggest advantage over mutual funds: They can be bought or sold at any time of the day. On an exchange. And, as we've seen and reported here, if there aren't enough shares to go around, any smart investment firm can gather enough of the underlying components of an index and create more shares to sell.

Other advantages tend to be lumped into the categories of transparency, low-cost and versatility. There is a fund for just about any type of financial asset, currency or commodity. New this year: the Social Media Index ETF, the Fishing Industry Index ETF and the Chinese Yuan Dim Sum Bond Portfolio.

But the big runup in enthusiasm for exchange-traded funds appears to be waning. Assets only grew 5% in 2011, down from 27.5% in 2010 and 46.7% in 2011.

The value of assets held in exchange-traded funds increased a scant $51.4 billion in 2011, by newly released figures. The total value reached $1,060.2 billion at the end of 2011, up from $1,008.7 billion.

That, even though investors added $117.6 billion to their ETF holdings. That was almost identical to the amounts they added in each of the prior two years.

The difference: The value of their shares depreciated.

But at least ETFs saw an overall gain.

By comparison, $11.6 trillion is invested in mutual funds, according November data from the Investment Company Institute. But that was down from $11.8 trillion at the end of December 2010.

That also was before investors pulled $23.7 billion out of stock funds, in the four weeks leading up to the New Year, according to ICI statistics. For all of 2011, investors have pulled out more than $125 billion from stock funds.

Investors basically don't know where to put their money. The bread and butter investment for funds has been equities.

Now, it looks like fixed-income funds are the new darlings, gaining nearly 35% in 2011.

"The bottom line is that investors want the safety of a portion of their income," said Brian Brennan, vice president at T. Rowe Price.

That meant Treasury bond funds, even though Standard & Poor's downgraded its rating on U.S. government obligations at the outset of August, for the first time ever. (See "ETFS Bond With Treasuries, in 2011," page one).

Rough sledding likely lies ahead. There are lots of ETFs, for instance, that try to leverage stock market and bond market momentum, promising two or three times the average result, up or down, in their chosen direction.

This will likely bring plenty of scrutiny from the Securities and Exchange Commission as it spends another year trying to bring high-speed trading under control - and tamp down volatility.

Bonds, believe it or not, were still looking like the safe haven, at year's end. And even the "dogs of the Dow"-those paying the highest dividend yields-did far better than the rest of the Dow.

What's scary about today's markets is: Predicting what the next year holds.

Just ask Bill Gross at PIMCO, who bet against Treasury bonds, and John Paulson, who bet on bank stocks.