20 years on, what motivates ETF investments?

The ETF industry has experience exponential growth over the last twenty years. What are now the main motivations and behavior that investors exhibit which drives them to ETF investments? Sharon Snow, CEO of Metropolitan Capital Strategies discusses what clients want in the modern age of exchange-traded funds investing.

The only thing that is constant in life is change. Isn’t that true in the ETF world? This is an industry that has experienced such rapid growth- from almost no assets under management two decades ago to over $3 trillion in assets recently.

The death of John Bogle last month has really shed a light on the changes that have taken place in such a short amount of time in the world of investing. Vanguard is one of the top ten ETF companies-(number 3 today according to a leading publication covering ETFs) that control most of the assets in the industry.

Bogle was a champion of low cost and transparency that investors were clamoring for twenty years ago-when most portfolios consisted of groups of individual stocks. Now, portfolio construction is focused on choosing the right ETF’s.

It is not just to provide asset allocation and diversification- but also for client approval so that the advisors can maintain those relationships. In short, it can be difficult to differentiate yourself in a world where advisors allocate using the same few ETFs from the same providers.

Trends, technology and a 'modern' portfolio

Trends have never been more important to give advisors an edge with their clients and disruptive technology is just that.   Margins continue to be squeezed and technology such as robo-advising are gaining assets, leaving traditional advisors scrambling to keep their clients happy.

How can an advisor gain an edge in this new world?  The old days of ‘adding value’ through portfolio construction in a 60/40 world are gone.  A suggestion is look for disruptive technology which are usually found outside of the big ETF firms.  These are the hidden gems that can resonate with millennials.  These folks are the future of asset management as they will be inheriting trillions of dollars of wealth in the decades ahead.  Let’s dig into a few ideas for a more modern portfolio.

Clients want market exposure to the broad market usually in the form of market cap weighted ETF’s.  This core portfolio is usually provided by straight S&P500 exposure, Nasdaq exposure and bond exposure using household ETFs such as SPY, QQQ and TLT.

"The only thing that is constant in life is change. Isn’t that true in the ETF world?"

By employing a core/satellite strategy, one can appeal to millennials by adding a lot of zing around this core.  Incorporating some of the latest technologies into the satellite part of the portfolio is the value add.

New product developments

New ETF launches of niche thematic disruptors from firms such as Global X and Defiance will help advisors to transcend the classic asset allocation and even the sector classification.  Optimal weightings of these types of ETF’s will be dependent on the advisor and client, but could average from 2 to 5% of that slice of the portfolio to be meaningful contributors.   Here are the some of the tickers (by firm) may be appealing to investors:

Global X has launched the following ETF’s MILN-Millennial Thematic, BOTZ-Robotics and Artificial Intelligence, FINX-Financial Technology, CHIQ -China Consumer, and SNSR-The Internet of Things.   Defiance ETF’s is the new kid on the block. Their tickers QTUM-Quantum Computing and AUGR-Artificial Intelligence capture the imagination of the millennial mind. The hunt for alpha in our opinion is never going to go away.

However, the way investors go about seeking alpha is changing.  ETFs, specifically in the thematic space, have become a more efficient way for investors to make “bets” in their portfolio without having to take on single stock risk.  Yet, they can still capture much of the upside of the sector or sub sector they would like to add to their portfolio.These ETF’s are allowing investors to access parts of the market that are going to be changing the way we work, live, and play for the next decade and beyond.

Most traditional sector ETFs are still market cap weighted.  Which is going to allow a few large, mega cap companies to essentially dominate the return profile of the ETF.  For example, the Defiance Quantum Computing and machine learning ETF; QTUM uses an equally weighted methodology to ensure investors have the same exposure to not just large cap companies, but mid and small as well; providing a more complete exposure to the sector an investor is trying to access.

Pursuing the client's vision

In every business, client’s needs should drive the process which certainly holds true in portfolio construction. When sitting down with your clients determine if they have a new vision for their funds. You may be surprised to hear that they do.

"...the way investors go about seeking alpha is changing."

While it is difficult to believe almost 20 years have passed since the launch of the first version of the QQQ- Nasdaq 100 ETF, time does pass quickly.   To reallocate portfolio exposure from old school technology exposure into disruptive technology demonstrates a new paradigm in leading edge investing.

The ETF providers are continuously providing new products to fill that need. It is up to advisors to present and incorporate these products in a meaningful and thoughtful way to add value to their own clients.