ETF “Technology” Gaining Ground: What it means for Your Portfolio

In my recent blog post on why investors should consider ETFs for the core of their portfolio, I highlighted the trend of institutional investors using ETFs in the core. A recent report from Greenwich Associates reinforces this fact.

Greenwich interviewed over 200 institutional investors, including pensions, foundations, endowments, insurance companies, asset managers and large investment advisors about their ETF usage. What did they find?

  • The share of U.S. institutions using ETFs has increased in each of the past five years and is expected to rise in the coming year.
  • Nearly half of institutional ETF users now allocate more than 10% of their total assets to ETFs.
  • Institutions reporting average holding periods of two years or longer jumped to 49% in 2014, versus 36% in 2013.
  • A growing number of institutions, approximately 80%, are using ETFs to obtain core portfolio exposures.
  • Institutions dabble in ETFs for specific strategies, and then broaden their usage to new asset classes or strategies after discovering the utility of ETFs.

These findings do not surprise me. I spend many of my days talking to institutional investors, such as those surveyed in the Greenwich report, and hearing about their investment challenges. ETFs, once thought of by many as a purely retail product, have begun to be recognized by institutional investors as a technological advancement in the world of investing. Why?

To keep it simple, think of technology as a transformation of a financial structure that delivers access and efficiency gains beyond what existed before. As low-cost, tax-efficient, easy to access, and liquid investment products, ETFs are a technology that institutional investors have discovered and are increasingly putting to use. The trend is becoming more prevalent for long-term investing as a core investment portfolio tool.

I’m often asked why this matters for retail investors or if this is even a good thing. In short, the answer is yes it matters and yes, it’s a good thing…for several key reasons:

  • More investors implies larger fund size and trading volumes which can help improve the tracking ability and tradability of ETFs.
  • Many institutional investors, such as pension funds, manage investments on behalf of millions of individual investors, who are in turn exposed to the efficiency benefits that ETFs can provide.
  • Product innovation – as institutional investors demand new products, strategies that were once only available to large investors can be brought to individual investors through an ETF structure.

Unlike some other aspects of investing, having a larger and more diverse set of investors in the ETF landscape is not a zero sum game – efficiencies and benefits can be enjoyed by all. I remember years back when only the most sophisticated people I knew had smartphones. Now you can’t walk more than two steps without seeing one in the hand of just about everyone. As a result, we all enjoy more choice and more efficient communications. I’m not posing that ETFs will be in the hands of all investors. I only offer that it is a step in the evolution of investing. And thanks to Greenwich, we can see that we are getting just a little bit closer. Pension plans, insurance companies, endowments, foundations, asset managers – all plan to keep increasing their usage of ETFs.