By Paula Wieck, CLS Investments
Innovation in the development of financial tools has been tremendous over the last several decades. There have been advances in robust risk-modeling software, algorithmic trading, and the evolution from investment vehicles, such as mutual funds with various front-end and back-end loads to low-cost ETFs.
The ETF industry continues to experience exponential growth and has seen inflows of $380 billion in 2017 so far. As ETFs gain favor with investors, innovation is accelerating. When ETFs first launched in the early 1990s, they were developed as short-term trading vehicles that allowed investors to quickly gain exposure to broad-market baskets at intra-day pricing.
These days, enhanced indexing, also known as smart beta, is growing in popularity. This systematic, rules-based approach attempts to isolate particular factors or themes that are proven to add incremental value over time and are necessary to correct some of the pitfalls of market-cap-weighted exposure.
CLS was one of the earliest adopters of ETFs, and we are committed advocates of smart beta ETFs. Today, about 50% of our equity exposure is composed of smart beta selections. As the ETF industry continues to evolve, however, we have seen active ETFs grow in popularity as well.
Active ETFs have many of the advantages of both mutual funds and traditional ETFs. They provide a lower-cost solution that offers investors access to renowned active managers’ expertise. They also allow ETF investors the flexibility to choose a combination of passive, enhanced, and active vehicles without leaving the ETF universe. With active ETFs, investors can get professional money management, lower costs and expenses, greater transparency, and trading flexibility.
According to AdvisorShares, the majority of the growth within active ETFs has been in the areas of fixed income and alternatives. The popularity stems from investors viewing alternative and active fixed income exposure as options that may hold up better during periods of rising interest rates. These areas of the market tend to have higher dispersion with the securities, which can make talented active managers that much more valuable.
Source: AdvisorShares Active ETF Report
CLS has roughly 10% of ETF assets under management invested in actively managed ETFs, and while there are many active ETFs we favor, below are our most prominent selections.
- SPDR® DoubleLine Total Return Tactical ETF (TOTL) is one of CLS’s largest holdings. Portfolio Manager Jeffrey Gundlach has more differentiated holdings than other active fixed income managers in the space.
- Davis Select Financial ETF (DFNL) is also one of CLS’s active holdings, and we’ve used it to replace cap-weighted financial exposure. Portfolio Manager Chris Davis has 25 years of experience investing in financial companies using a disciplined approach that currently combines selecting companies based on financial strength and profitability, competitive advantages, corporate management, capital allocation structures, and proprietary valuation metrics that can add value over time.
- JP Morgan Diversified Alternatives ETF (JPHF) allows CLS to add exposure that has low correlations to stocks and bonds in order to strive for better risk-adjusted returns over the long term. Portfolio Managers Yazann Romahi and Wei Li team up to manage this multi-asset, hedge-fund-like portfolio. Both managers have discretion to use long/short equity, event-driven, and global macro strategies while incorporating equities, fixed income, currencies, commodities, and derivatives on these securities if desired.
We at CLS tend to select active ETFs when we believe the active managers have strong investment philosophies, good focus, and solid track records. Combining CLS’s top-down asset class diversification with active managers’ bottom-up fundamental expertise makes a lot of sense in active portfolios.
This information is prepared for general information only. Information contained herein is derived from sources we believe to be reliable, however, we do not represent that this information is complete or accurate and it should not be relied upon as such. All opinions expressed herein are subject to change without notice.
Paula Wieck, CFA, is a Portfolio Manager at CLS Investments, a participant in the ETF Strategist Channel.
3249-CLS-11/22/2017