Content provided by Joe Smith, CFA, CLS Senior Market Strategist
Over the last 20+ years, exchange traded funds (ETFs) have captured the hearts and minds of investors. These investment vehicles have empowered everyday investors to build portfolios that help them reach their financial goals – with greater transparency, lower costs, and more precision. ETFs have taken the power from active money managers and placed it in the hands of individual investors. As these tools have proliferated, investors are turning to firms that specialize in ETFs to help them sort through their options and apply their expertise in finding the best fit.
As usage has increased, so has the level of scrutiny on these boutique investment managers, known as ETF strategists, and some recent blunders have called their value into question.
So who are ETF strategists, and why do we need them?
ETFs: A Response to Mediocrity
Before ETFs, individuals placed their investments in the hands of active managers via pooled accounts or mutual funds. It was the only mechanism for investors to gain access to the markets, and they just had to hope their fund managers outperformed. But selecting the right manager can be a long and tedious process, and fees charged by mutual fund providers can often leave investors worse off than where they started. As documented in numerous studies, active managers weren’t delivering on their most important promise: a positive experience for clients that brings them closer to their long-term financial goals.
The first ETF issuers, such as State Street, iShares, and PowerShares, wanted to ensure ETFs could change that paradigm. They worked tirelessly to build ETFs to serve as a lighthouse – a beacon of hope for investors desperately looking for another way to meet their goals.
Five Reasons to Like ETFs
The rise of ETF strategists has sparked numerous debates on which is better suited for investors: active or passive investing. ETF strategists challenge that dichotomy by applying active-management techniques across portfolios of passively managed ETFs. ETF strategists believe in the power of ETFs to work for the investor for numerous reasons, including:
- ETFs can offer better liquidity, greater transparency, lower costs, and greater precision in exposure versus traditional, actively managed strategies.
- ETFs can be a better and more cost-effective technology than mutual funds.
- ETFs allow investors to build highly customized portfolios that can consistently meet outcomes.
- ETF offshoots, such as smart beta, can reduce risk by combining the best elements of active management with the consistency of passive investing. Smart beta breaks down rates of return into identifiable and consistent sources, and mimic well-known investment strategists while removing human judgement (and in many cases, human error) from the equation.
- A more recently evolved tool, factor-based ETFs, allows strategists to apply institutional-level risk management techniques for the benefit of everyday investors.
Bottom Line – ETF Strategists Are On the Side of Investors
ETFs have provided hope to investors, and ETF strategists are increasingly becoming the embodiment of that hope. The days of simply selecting traditional active managers as most likely to outperform are long over. Even when under pressure from traditional active managers, ETF strategists are on the side of the investor. They believe in ETFs because their innovation, lower costs, accessibility, and effective risk management help build portfolios engineered for long-term success.
Despite some recent stumbles, we at CLS believe the role of ETF strategists is still in its infancy and will continue to evolve. Building ETF portfolios is not about searching for some mysterious return called alpha; it’s about adding consistent value through active management of beta. ETF strategists will continue to push the envelope on behalf of all investors for one simple reason – investors deserve a better experience, even if some are not willing to provide it.