Make Money in Small but Powerful Basic Materials Stocks the Easy Way

Exchange-traded funds offer a convenient way to invest in sectors or niches that interest you. If you expect materials companies to start doing better as our global economic recovery builds steam, and you also want to focus on small caps because of their growth potential, the PowerShares S&P Small-Cap Materials ETF (NAS: PSCM) could save you a lot of trouble. Instead of trying to figure out which companies will perform best, you can use this ETF to invest in a lot of them simultaneously.

The basics
ETFs often sport lower expense ratios than their mutual fund cousins. The PowerShares ETF's expense ratio -- its annual fee -- is a low 0.31%. The fund is fairly small, though, so if you're thinking of buying, beware of occasionally large spreads between its bid and ask prices. Consider using a limit order if you want to buy in.

This ETF doesn't have enough of a track record to assess yet, as it's very young. It underperformed its benchmark in 2011, and is slightly outperforming it so far this year. As with most investments, of course, we can't expect outstanding performances in every quarter or year. Investors with conviction need to wait for their holdings to deliver.

With a low turnover rate of 17%, this fund isn't frantically and frequently rejiggering its holdings, as many funds do.

What's in it?
Few small materials companies (not to mention big ones) had strong performances over the past year. Still, many could see their fortunes change in the coming years.

AK Steel (NYS: AKS) , down 58% over the past year, seems less promising right now, as it has been operating in the red for the past few years and reporting negative free cash flow. It does pay a dividend of more than 3%, but some question how long it can keep that up. Still, the stock has fallen so far that some think it looks attractive. The company has recently done some shuffling of its management team, which may lead it on a stronger path.

Balchem (NAS: BCPC) , maker of ingredients for the food, feed, and medical sterilization industries, fell 28%. It sports a tiny dividend, recently yielding 0.6%, but it has been hiking that briskly, to the tune of nearly 40% annually, on average, over the past five years. Its payout ratio is low, too, suggesting lots of room for growth. The company has been pressured by rising raw material costs, but it still turned in a promising earnings report a few weeks ago.

SunCoke Energy (NYS: SXC) , the largest independent producer of high-quality metallurgical coke in the Americas, also lost ground, and has been heavily shorted, which reflects a dearth of confidence from many investors. Spun off from Sunoco, it recently posted rather strong earnings, with revenue and earnings for its first quarter up more than 40% over year-ago levels.

RTI International Metals (NYS: RTI) , a titanium specialist, shed 38%. It has suffered some due to production delays with Boeing's Dreamliner, but in its recently posted first-quarter results, revenue jumped 10% over year-ago levels (though earnings fell a bit). Management is bullish on its future, due to strong expected demand from growing fleets in Asia, the Middle East, and Latin America. The company's backlog has also increased substantially, from $350 million last year to $563 million.

The big picture
Demand for basic materials isn't going away anytime soon. A well-chosen ETF can grant you instant diversification across any industry or group of companies -- and make investing in and profiting from it that much easier.

If you're more interested in gold than titanium or steel, check out our special free report, "The Tiny Gold Stock Digging Up Massive Profits," for a compelling candidate for your portfolio.

At the time this article was published Longtime Fool contributorSelena Maranjian, whom you canfollow on Twitter, holds no position in any company mentioned.Click hereto see her holdings and a short bio.Motley Fool newsletter serviceshave recommended buying shares of Balchem. The Motley Fool has adisclosure policy.We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. Try any of our Foolish newsletter servicesfree for 30 days.

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