Forty-four percent to be exact, according to Celent, a Boston-based financial research and consulting firm. The Hong Kong market for synthetic ETFs will drop to $4.5 billion by 2014 from $8 billion last year, says Anshuman Jaswal, a financial-services analyst at Celent, if new regulations to increase transparency and protect investors are strongly enforced by the city’s Securities and Futures Commission. That’s a pretty huge drop for these ETFs, which produce returns through derivative contracts rather than through underlying securities. The obviously implication here is the counterparties involved in the derivative contracts don’t want to be knownd and that once you must protect investors these things can’t make money.

“Societe Generale’s Lyxor Asset Management plans to delist all 12 of its Hong Kong-listed synthetic ETFs in March, “ says Bloomberg, quoting Lyxor’s head of ETF distribution in Asia, Herman Chen, who added the decision was not a reaction to the new regulations. Maybe, but the timing seems awfully suspect.

Singapore, meanwhile, is expected to pick up the slack. Over the next two years, its market for synthetic ETFs is expected to grow to $5.5 billion from $1 billion, says Jaswal. Bloomberg reports synthetic funds make up 11% of Asia’s $100 billion ETF market, with 70 ETF listings in Hong Kong and 44 in Singapore.

“It is possible that trading volumes are insufficient to make Lyxor’s ETFs cost-effective in light of the new measures,” Celent said a report. The big not fully explained is why will trading volumes drop so precipitously? Is it because once investors get a load of what’s inside these things they won’t want to go anywhere near them?

While there are more than $1 trillion in assets in the entire U.S. ETF industry, the majority are confined to about 100 funds, “leaving the other 1,300 ETFs in the dust,” says ETF Database.

Yesterday, I said many investors remain risk-adverse in today’s volatile market, leaving them squeamish about buying into hypertargeted ETPs. They prefer to stick with big, liquid funds tracking well-known indexes both because they understand what the index tracks and because they can get out quickly in an emergency. Other reasons why small, niche funds are having a hard time gathering assets is because institutional investors and investment advisors are restricted to buying products with minumum requirements for assets under management, average daily volume and age of the fund.

This leaves just 18 ETFs holding nearly half the assets of the entire ETF industry, according to ETF Database, which calls the group the $10 billion club because they all have more than that under management.

It’s no surprise who tops the list:

SPDR S&P 500 (SPY)
SPDR Gold Trust (GLD)
Vanguard MSCI Emerging Markets ETF (VWO)
iShares MSCI EAFE Index Fund (EFA)
iShares MSCI Emerging Markets Index Fund (EEM)
iShares S&P 500 Index Fund (IVV)
PowerShares QQQ (QQQ)

The big surprises to my eyese were the iShares iBoxx $ Investment Grade Corporate Bond Fund (LDQ) and the iShares iBoxx $ High Yield Corporate Bond Fund (HYG).

However, of the 190 ETFs launched in the first six months of 2011, 79% failed to reach the profitability mark of $30 million in assets under management, according to XTF, an ETF-focused research house. This was up from 62% in 2010 and less than half in 2009.  Fewer assets in the funds means less liquidity and wider bid-ask spreads.

Mel Herman, the head of XTF, says, said: “Most popular indices already have an ETF tracking them, so issuers are launching more and more niche products.”

I’ve been saying this for two year. A big difference between mutual funds and ETFs is that you don’t see many ETFs tracking the same index while each mutual fund sponsor can have their own set of index funds that track the S&P 500, the MSCI or any other popular index. The reason is twofold. Many mutual fund companies run 401(k) plans. So, they need to offer a wide range of options in the plan. Since plan participants are usually trapped and unable to buy funds outside the plan sponsor, these copy-cat index funds can build up significant assets. Also, many mutual funds are sold by investment advisors who receive a commission, or load, from the fund company. Thus, competing funds tracking the same index can build up assets as advisors direct investors which fund to go into.

Typically, the first ETF to track an index claims that market segment for itself. By the time a second fund launches, the first ETF has made a reputation and gathered a large amount of assets, making it much more liquid than any newcomer. For instance the SPDR S&P 500 (SPY), which launched in 1993, has net assets of $95.4 billion, while the iShares S&P 500 Index Fund, which launched seven years later, has only $26.2 billion.

This syndrome where the first ETF grabs all the assets and attention is called “first-mover advantage.” Since ETFs don’t have the captured audience of 401(k) plans or loads to pay to advisors, no one is there to push smaller funds, hence there are few funds tracking the same index or asset.  This means ETF sponsors need to find new indexes to track. But after a while, the indexes get so specialized they only attract a small audience. In addition, in volatile times, investors are less willing to risk investing in an offbeat concept. They want proven indexes that track broad markets. So, until investors are willing to take on more risk, unless an ETF concept is compelling, new funds will continue to struggle for assets.

Already a thought leader in producing ETF educational resources, the new site is expected to address common misconceptions about the nuances of the ETF product structure. It will feature articles and commentary on timely topics and research from SPDR executives that should make it easier for investors to evaluate ETFs.

Some of the papers include:

• Exchange Traded Funds: A Brief Introduction
• How ETFs are Created and Redeemed
• Expense Ratio is Not the Only Factor That Determines Total Cost

One paper, Separating ETF Facts From Fiction, addresses a lot of the negative misconceptions floating being propogated by anti-ETF forces. The section on the Flash Crash, which many people blame on ETFs, explains how ETFs were the victims of the market malfunction, not the villains. In addition, the use of derivatives and synthetic ETFs is also addressed. While I understand how U.S. ETFs that use swaps are safe, I’m still confused about the negative issues surrounding European synthetic ETFs, in particular how they are safe compared to U.S. ETFs. This paper also addresses shorting ETFs and the benefits of securities lending.

Overall, it’s a good place to find information beyond the basic knowledge people have about ETFs and delve into the facts behind a lot of the lies being pushed by those with something to lose as ETFs gain prominence.

State Street Global Advisors is the asset management business of State Street Corp. (Ticker: STT)

I found this neat video “The ‘Aha’ Moment – Understanding ETF Liquidity” on the iShares blog. This colorful little cartoon attempts to explain the creation/redemption process of ETFs with the analogy of flower bouquets.

The flowers are the shares of the individual stocks and the bouquets are the ETF shares. Overall, it’s not bad, but when it actually gets to the creation/redemption process the “Aha” moment left me a little confused, with a little bit too much on the flowers and not enough translation on what this means to stock shares.

Basically, an ETF share (bouquets) is like a share of the index it follows. It represents the value of all the underlying stocks (flowers) in the index. However, when the demand rises for ETF shares, they need to create more ETF shares. It sorta glides over the most important part. If the investor wants 500 shares of an ETF (500 bouquets) with 100 stocks (flowers) in the index, then the authorized participant needs to go the market himself to get, in this case, 50,000 flowers, 500 of each of the 100 individual stock (flowers) in the index. He can get them either from the market maker, the AP’s inventory, or others in the market. The AP takes this basket of securities (flowers) and trades them with the ETF (bouquet) maker, who in turn gives him 500 shares of the fund (bouquets), each holding 100 stocks (flowers). Because the 50,000 flowers are equal 500 bouquets it’s an even trade.

Was the video perfectly clear to you?

In deciding whom to read on what will be the trends next year, I looked to the place with the most appropriate name, ETF Trends. Here are ETF Trends’ top five predictions and the ETFs to track these trends.

Currency ETFs: With more investors seeking to hedge currency risk, as well as use currency to make a bet on the Eurozone debt crisis, currency ETFs should see a lot of action next year.

Emerging Markets took a bath this year, mostly from surging inflation. But the truth remains that the biggest growth will be found in emerging markets. Of course, a lot of that growth comes from selling to Europe and the U.S. and if those two areas fall into recession, we could see emerging markets fall furthers. Still, the valuations have come a lot from their lofty prices at the start of 2011. With clean balance sheets and a rising middle class, emerging markets look attractive and even if they fall some, this is where the action will be in the coming years.

Bonds are still going to be winners. With the Federal Reserve promising not to raise interest rates for another year, we won’t see a huge sell off in U.S. Treasurys. And with more potential problems in Europe, Treasurys will continue to profit from investors looking for safety. But with yields so low, it may be time to put more money into corporate debt, or even emerging market bonds.

Commodities and the falling dollar: While the dollar has risen lately, the broader trend remains down. Meanwhile, as people worry about massive money printing in Europe and the U.S., gold will come back, especially the SPDR Gold Shares (GLD).

While gold and gold ETFs rallied in 2011, surprisingly gold miner stocks tumbled. Typically, you see leverage in gold mining stocks, with moves three to four times the same direction as gold bullion. With David Einhorn thinking “that there is a major disconnect between miners and gold prices”, ETF Trends says Market Vectors Gold Miners (GDX) and Market Vectors Junior Gold Miners ETF (GDXJ) will move sharply higher in 2012.

The big trends this year were ETFs focused on providing yield through dividends or good returns with minimal volatility. Lee’s top two ETFs for the year are the iShares High Dividend Equity Fund (HDV) and the PowerShares S&P 500 Low Volatility (SPLV), which each pulled in more than $800 million in assets under management. He also praised iShares for its suite of low-volatility ETFs, especially for their low fees.

iShares MSCI USA Minimum Volatility Index Fund (USMV), exp. ratio 0.15%
iShares MSCI EAFE Minimum Volatility Index Fund (EFAV), 0.20%.
iShares MSCI Emerging Markets Minimum Volatility Index Fund (EEMV), 0.25%.
iShares MSCI All Country World Minimum Volatility Index Fund (ACWV), 0.35%.

Lee calls the UBS E-TRACS 2x Wells Fargo Business Development Company ETN (BDCL) the worst new fund with an expense ratio of 0.85% and the possibility of 0.4% more in accrued financing charges. Yet, the big problem is that the note doesn’t take advantage of the ETN structure’s ability to avoid incurring taxes on the huge yield it offers.

Another big trend this year was ETFs that tracked factors such as momentum or volatility. New companies that produced these include Russell, QuantShares and FactorShares. I’ll look at these more closely later.

The strict budget guidelines outlined in the agreement may actually exacerbate this problem Add cost-cutting austerity measures and huge debt burdens to slow growth and the recession that’s already engulfing Spain, Portugal and Greece will soon move into France and Germany over the next six months, according to Standard & Poor’s.

The United Kingdom also offers opportunities because it doesn’t use the euro, but rather the pound sterling. Because the UK has control over its currency, it can take measures to offset the slowing growth. The iShares MSCI United Kingdom Index Fund (EWU) holds 106 stocks, and provides a decent proxy for the British stock benchmark, the FTSE 100, which is currently not tracked by a U.S. ETF.

Because of recession fears and as a proxy for their European-wide market viewpoints, investors have been selling German stocks. The sell-off has left the German market trading at nine times forward earnings vs. the S&P 500’s forward multiple of about 12. Reuters says a good way to play the European crisis is to buy German stocks because of low valutions and because any drop-off in German exports to Europe may be picked up by the U.S. and China. I doubt the U.S. and China can make up for Europe’s weakness. But a good way to play it is to buy the iShares MSCI Germany Index Fund (EWG), which holds Germany’s 50 largest companies. It’s down 17% this year and yields 3.3%.

If you believe the euro will continue to fall as the debt crisis continues, Reuters says pick up the PowerShares DB US Dollar Index Bullish (UUP). By tracking the performance of the dollar against the euro and five other currencies it provides a hedge to U.S. investors holding European stocks.

Friday, Dec. 31 will be the last day of trading for the IQ Taiwan Small Cap ETF (TWON), IQ Hong Kong Small Cap ETF (HKK) and the IQ Japan Mid Cap ETF (RSUN). All three funds were less than a year old.

Shareholders who don’t sell their shares by Friday will have their shares automatically redeemed on Dec. 30. Shareholders who don’t sell by this date will not incur transaction fees in connection with the liquidation. Index IQ will pay all the costs.

Elsewhere in ETFLand:

WisdomTree ETFs declare quarterly distributions. The Dividend ex-Financials Fund (DTN) tops the list with an actual payout of 47 cents per share. LargeCap Dividend (DLN) and Asia Pacific ex-Japan (AXJL) show and place with 39 cents and 38.4 cents, respectively. Equity Income (DHS) follows closely with 38.0 cents. Most International funds don’t post dividends this quarter.

Financial Times says in 2011 British ETF investors flocked to fixed income and strategies that provide insurance should equities take a dive. Emerging market ETFs holding either stocks or bonds saw a lot of inflows as did gold mining stock ETFs, such as Market Vectors Gold Miners (GDX).

CNBC.com reports that “only 23% of large-cap managers beat the S&P 500 and 27% outdid the Russell 1000, according to Bank of America Merrill Lynch.” While the fund managers interviewed for the piece make it seem like this was an unusual year, the actual numbers aren’t that shocking. Scads of research show that the indexes annually beat 70% to 80% of all active funds.

Since 2008, many investors have been wondering what they are getting for the high fees they pay to active mutual fund managers, especially in a down market. While it may be difficult to beat the index on the upside, if active managers can’t protect your assets on the downside, what’s the point of going active?

And it doesn’t look like things are getting better anytime soon. Philippe Gijsels, the head of research at BNP Paribas Fortis, thinks that not only won’t we see a Santa Claus rally, but in fact, the September/October rally was just a respite from an end-of-year decline and long-term move to the downside. Gijsels says the longer the European Central Bank fails to find a solution the worse it will get for the equity markets here and abroad. If this French banker doesn’t believe a solution is near, it’s time to worry.

In another corner of Bank of America Merrill Lynch, technical research analyst Mary Ann Bartels says the sell-off will continue and may not hit a bottom until the first quarter of 2012. She predicts the S&P 500 could test the October low of 1074, a 14% drop from today’s close of 1244.