Exchange-traded funds, or ETFs, are usually passive investments, because they automatically track an index or a basket of assets. But now, financial advisers are using ETFs more aggressively, as tools in an actively managed portfolio. And the fees on these ETFs are starting to approach zero, particularly as advisers compete and justify their own fees.
That was one takeaway from Alpha Architect’s and Villanova University’s joint conference last week at the college’s Bartley Hall.
Alpha Architect founded Philly’s first robo-adviser under Wesley Gray and Jack Vogel, and the firm has since morphed into a broader asset manager using ETFs. The conference brought together academics and investment professionals (more info at https://alphaarchitect.com/democratizequant). Quants, or quantitative investors, are affectionately called “turbo-nerds.” They use computer science, algorithms, mathematics, and even physics to try to crack the code to higher market returns.
Here are ways quants and others are looking at the markets right now.
Eric Balchunas presented on how portfolio models using ETFs represent a trend among financial planners.
“Investing using ETFs is the new ‘active management’ among financial advisers,” said the senior ETF analyst with Bloomberg Intelligence.
With no share classes and generally lower tax treatment, ETFs are steadily outpacing the growth of mutual funds, he added. That was supported by Ben Johnson of Morningstar, whose data show that ETFs now represent 20 percent of all fund assets, up from zero in 1993. Johnson is director of global ETF research at Morningstar.
Financial advisers have become hyper-focused on fund fees, which is “rational and largely done to help clients, but can be taken to extremes,” Balchunas wrote. "Expense ratios have become the new past performance chart thanks to a shift toward a fee-only model, where the advisers get paid as a percent of client assets, and away from commissions paid by mutual funds.” Balchunas reiterated those same trends at the conference.
Deal activity also is spurring ETF issuers to get into the advisory business, Balchunas told the Villanova crowd of suits and some students.
“Index-making is the new active management. It’s like a little R2-D2: It’s a robot, but there’s a lot of human-ness to it," he said.
SoFi, the student loan refinancing start-up, said this month that it will launch its own SoFi-branded ETFs, with no fee for a period of time.
In a sign of just how juicy asset managers believe this ETF business will become, Goldman Sachs last week said it’s purchasing Standard & Poor’s Investment Advisory Services, or SPIAS, a creator of model portfolios of ETFs.
Goldman plans to keep S&P’s open architecture platform, which allows for ETFs from other firms to be included in portfolios, but Goldman also plans to launch its own model portfolios loaded with Goldman ETFs, according to Barron’s.
As for fee cuts overall, the behemoth firms — in particular BlackRock, State Street, Schwab, and Invesco — appear to be cutting their own fees to next to nothing as well as trimming head count and expenses, to keep up with Vanguard.
But they “will likely be rewarded in the future” because fee cuts lead to billions of dollars flowing into the cheaper ETFs, despite performance, Balchunas added. Pain now, profit later.
We also met up with a spin-off of Alpha Architect, a new index formed by Perth Tolle, formerly a private wealth manager with Fidelity and now an entrepreneur. Her “freedom weighted” emerging markets index started as an idea and is now an ETF reality.
Tolle is launching an index fund based on the principle of economic freedom and the value of liberty. Tolle calls this “Life+Liberty” index the world’s “first human rights-weighted factor-based indices” with a focus on emerging and frontier markets.
The index mimics a portfolio of about 100 equity securities listed in emerging market countries and 79 personal and economic freedom factors categorized into three types.
These are 1) the rights to life, such as no torture or political detentions; 2) liberty, such as rule of law and due process, and 3) property, including strong monetary and fiscal institutions.