The exchange traded fund industry has come a long way from its traditional beta index replication methodology. As the industry continues to evolve, financial advisors and investors will be open to greater opportunities and require more education.
“Product development has been rapidly moving beyond the traditional market-capitalization-weighted strategies to active, fundamental, leveraged, commodity, currency and alternative approaches,” Tim Buckley, managing director and chief investment officer at Vanguard, said in an Ignites article. “It is a double-edged sword — greater choice for advisors and investors, but also greater complexity.”
As advisors and investors learn more about ETFs, many have switched to ETFs and other low-cost index funds from underperforming active mutual funds. [Advisors Driving Growth at ETF ‘Big Three’]
“The growth of ETFs has been closely aligned with the growth and evolution of advice. More and more advisors realize that they do not need active funds to create alpha,” Buckley added.
Buckley also warns that investors should monitor their exposure to income generating assets.
“Do not focus solely on yield,” Buckley said. “Investors who reach for the highest yield may find themselves concentrated in a certain sector of the market, such as high-yield bonds or utility stocks, and may not realize the risks that they are taking on.”
Vanguard has created a suite of ETFs as an extension of their patented share-class mutual fund structure, which provides lower costs and potential for improved tracking. Additionally, this allows investors to view past performance of the fund’s other share classes.
“A separate share class of an existing fund significantly reduces start-up costs compared with the costs to launch a stand-alone ETF,” Buckley said. “We are also able to leverage economies of scale in the underlying fund to minimize operating and trading costs for ETF investors.”
Vanguard Group recently switched 22 of its ETF benchmarks to FTSE and Center for Research in Security Prices, or CRSP, indices to help lower overall costs. A number of other factors also goes into selecting an underlying index.
“First and foremost, we look at an index’s ability to measure returns accurately from a designated market segment,” Buckley said. “We then take a look at five characteristics of a provider’s construction methodology: objectivity, adjustment for float, approach to market capitalization, categorization of value versus growth and rebalancing.”
For more information on the ETF industry, visit our current affairs category.