By Herb Morgan, Efficient Market Advisors
The financial and non-financial press seems laser focused on what they call the switch by investors to passive investment management, citing primarily the growth of Exchange Traded Fund (ETF) assets.
Little time goes by between articles which come to the mistaken conclusion that investors have abandoned active management for passive. They cite two major reasons for this: first is cost-savings; and second is the avoidance of active manager failure. While it is reasonable to assert that investors are looking for both cost savings and efficiency drivers, I am less convinced that investors are becoming more passive in their approach to their portfolios.
Passive investing often is the process of purchasing investments without thought towards tactical considerations such as value, growth, momentum or other inputs requiring active consideration. The use of an ETF by an investor is not necessarily a decision to invest passively. To be sure, there are investors who do nothing more than buy-and-hold index tracking vehicles such as the iShares S&P500 Index ETF (IVV). But one look at the massive trading volume of ETFs destroys the argument that ETF investors are passive. Bryan Novak of Astor Investment Management penned The Rise of the ETF Strategist in January of 2016 where he well-articulated that active management had begun a major shift by incorporating ETFs into the portfolio construction process.
The ETF Strategist space has grown to between $87 Billion and $150 Billion depending on whose metric you care to adapt. There are many hundreds of billions more actively managed ETF assets being handled by financial advisors and do-it-yourself investors. That is not to mention the now developing institutional consultant driven mandates that are looking to active ETF Strategists for portfolio solutions.
Active investing with passive ETFs, whether with a professional strategist or independently, provides investors with cost-savings and other benefits. ETFs generally have stated expense ratios that are a fraction of both active and index-tracking mutual funds. Because of their specific structure, ETFs generally have little in the way of the unreported trading costs which can hurt returns of all mutual fund investors. And finally, because ETFs usually track a passive index, investors often are better able to evaluate the performance of the active asset allocation decisions made by their manager. Finally, because of the specific create and redeem process of ETFs, investors infrequently need to deal with pesky capital gains distributions.
Active management is very much alive and thriving. The active management industry is evolving in ways that need to be understood. One thing is for sure, the ETF Strategist seems to be here to stay.
Herb Morgan is the Founder, CEO, and Chief Investment Officer at Efficient Market Advisors, a participant in the ETF Strategist Channel.
Disclaimer
This presentation has been prepared by Efficient Market Advisors, LLC, a division of Cantor Fitzgerald Investment Advisors, L.P. (collectively, “EMA”) for use in one-on-one meetings with highly-sophisticated investors, who are expected to make their own investment decisions. Nothing contained herein should be treated as investment advice or a recommendation to buy or sell any security. This article does not constitute tax advice and as such, investors should be advised to consult their own tax adviser regarding the tax consequences of their investment activities.