As the market transformed from a rollercoaster in 2008 into a downward spiral into the red this year, investors ditched mutual funds for ETFs. Part of this is due to ETFs' tax efficiency and trading capability and their enhanced transparency—the buzzword of the Obama administration. After all, the number of daily traded shares has grown from 45 million in 2006 to nearly 300 million so far this year, says Morningstar ETF analyst John Gabriel.

But it's ETFs' ability to offer investors exposure to a sector of the stock market without the risks of single stocks that deserves the most credit for their recent popularity, says Dan Dolan, director of wealth management strategies at Select Sector SPDRs. "With the volatile environment we're in and the lack of trust people have in corporations and management, investors are trying to minimize single-stock exposure by buying into these baskets."

INDECISIVE ACTIONS

Still, though, investors have been slower in 2009 to rush to ETFs than they were in 2008. In the fourth quarter of 2008, mutual funds shed $114.3 billion, while ETFs took in $62.6 billion. In 2009, however, through March 6, $23.5 billion have fled ETFs and $50 billion have left mutual funds.

One factor driving investors' indecision is the confusion in today's market. Two stimulus bills, a mortgage plan and no end in sight to the market's daily plunges have forced investors to run for safety from the storm, no matter how irrational, Dolan says. And it shows.

The Outliers

Fixed-income funds continue to take in money. Long-dated Treasuries are the best performers, though they've fallen from their peak. IShares Barclays 20+ Year Treasury Bond ended 2008 up 48% for the quarter, but is down 11.27% so far this year—still a feat in today's market. But high-yield bonds have taken quite a beating. Investors are also running for cover in gold, as the SPDR Gold Shares continues to take in new money and is up 8.13% YTD through March 6.

Typical defensive sectors like consumer staples and healthcare, which raked in double-digit returns last year, have also dipped into the red, though they're still relatively outperforming the other sectors. In fact, all nine sectors of SPDR ETFs are now down double digits. The sob story continues for financials as well, the worst performer so far this year. Ultra Financials ProShares is down 75.39% YTD through March 6 and an abysmal 94.63% year-over-year.

The Consistent Short

One thing that has stayed constant is that as the Dow plummets, financial advisors race to ETFs to hedge the flailing market. Lou Stanasolovich, CEO and president of Legend Financial Advisors, has jumped on this trend, filling his portfolios with funds that double-short the S&P 500, industrials, the MSCI EAFE and crude oil. "We use open-ended mutual funds where we feel that active management adds value, but with ETFs I can get double exposure to something quickly or exposure to something that isn't as pure as the open-ended fund," Stanasolovich says.

So what's in store for ETFs? As long as Americans don't trust the corporate world, Dolan says, investors and advisors will continue to turn to the diversified stock exposure ETFs provide. "It's not only volatility in the marketplace, but also mistrust of corporate America. If you look at blue-chip names like AIG and Citigroup, it will be a long time before the investing public stops wondering if that balance sheet is real. Until trust is restored, people will be looking for more diversification and less exposure to single stocks."

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