Exchange-traded funds gain favor with financial advisers
Financial advisers have fallen in love with exchange traded funds as a low cost and more tax efficient way of investing in the stock market.
For the fourth consecutive year, the Denver, Colo.-based Financial Planning Association’s survey of financial advisers found exchange-traded funds, or ETFs, were the most popular investment vehicle they use and recommend out of 20 different options.
“We like ETFs a lot,” said Carrie Coghill, CEO of Coghill Investment Strategies, Downtown. “The main reason is, for tax purposes, ETFs allow us to achieve diversification without the unwanted or untimely tax distribution that traditional mutual funds can generate.”
Exchange-traded funds have exploded in popularity over the past two decades. In 1998, there were only 29; as of June 2018, there were 1,832, investing in a wide range of stocks, bonds and other securities and financial instruments, according to the
Washington, D.C.-based Investment Company Institute.
On the surface, they have a lot in common with mutual funds.
Exchange-traded funds are investments that try to replicate the performance of a stock market index such as the S&P 500 or a market sector such as energy and technology or commodities such as gold or silver. They are similar to mutual funds in that they offer investors partial ownership of an undivided pool of stocks and other assets.
What many financial advisers like is that the funds also offer exposure to some areas of investment that mutual funds do not.
James Meredith, executive vice president of the Hefren-Tillotson financial services firm in Downtown, said advisers there use ETFs every day.
“We use active managers [through mutual funds] and ETFs and individual portfolios,” Mr. Meredith said. “ETFs are different. They have the advantage of lower expenses, and we manage billions of dollars. We use them to fill in gaps in a portfolio that are not covered by active managers.
“It’s like mortar in the joints when building a brick wall.”
The survey by the Financial Planning Association and the Journal of Financial Planning found 87 percent of financial advisers are currently using or recommending them with their clients. Factors driving the popularity are their lower cost, tax efficiency and trading flexibility.
Mutualfunds still hold the vast majority of assets, by far. The Investment Company Institute reports in its 2018 Fact Book that longterm mutual fund assets held by financial institutions in the U.S. total $15.9 trillion. ETF assets total $3.5 trillion.
Unlike mutual funds, which can be redeemed only at the end of the day, exchange-traded funds can be bought and sold throughout the day, just like common stocks.
Aaron Leaman, chief financial officer at Signature Financial Planning on Mount Washington, said advisers at his firm are probably using a 50-50 split.
“Five years ago, our split would have been closer to 8020 [in favor of mutual funds],” he said.
“ETFs are cheaper than mutual funds, and that’s always the most important thing. ETFs are good for doing the simple parts of a portfolio. They are managed by computers instead of humans, which makes them very cheap and straightforward.”
That’s not the answer for everything, Mr. Leaman said.
“For complicated areas of a portfolio where you want to get a human in the loop, you would go with mutual funds. But for straightforward indexes, ETFs are the better choice.”
Ms. Coghill also likes the transparency of the investments. “With ETFs, we know what we own as opposed to traditional mutual funds that are only required to disclose its assets periodically throughout the year,” she said.
That can be important in part because of one of the weaknesses of exchangetraded funds.
“There is one real disadvantage to owning them besides mutual funds. Mutual funds have a professional portfolio manager making decisions about when to buy and sell individual securities,” Ms. Coghill said. “Whereas with ETFs, the adviser has to be aware of the valuations of the individual securities within the fund.”
“ETFs are cheaper than mutual funds and that’s always the most important thing. ETFs are good for doing the simple parts of a portfolio. They are managed by computers instead of humans, which makes them very cheap and straightforward.” — Aaron Leaman, chief financial officer, Signature Financial Planning