Versatile ETFS gain a foothold
Combo of stocks, bonds has been a hit for 20 years
Next month marks the 20th anniversary of when a new type of investment debuted, incorporating some of the best traits of individual stocks and mutual funds.
The combination was a hit, and exchange-traded funds have been flourishing ever since.
The first ETF became available to the American public in January 1993. Known formally as a Standard & Poor’s Depositary Receipt, or “Spider” for short, the fund allowed investors to buy into 500 big stocks and trade them around the clock. Now at $120 billion in assets, this first fund also is the larg-
est.
But ETFs have spread out to occupy all sorts of other niches, including some that aren’t common in the realm of mutual funds. Would you like to invest in bank stocks, Chinese or Brazilian corporations, gold, grain or firms that pay big dividends? One or more ETFs can meet those objectives.
Hoping to make a bet on U.S. stocks or against the bond market? ETFs can get the job done.
Many delve into currencies and commodities. Some let you ratchet up your risk level by using leverage, while others tamp down on volatility. As ETFs continue to blossom, investors are finding more ways to fill in different parts of their portfolio. With roughly 1,200 funds counting nearly $1.3 trillion in assets available to Americans, there’s plenty to choose from.
“Almost anything you want to invest in is available in an ETF,” said Alexander Matturri Jr., chief executive officer at S&P Dow Jones Indices and a speaker at a recent industry conference held in Phoenix. “We see growth of the ETF business ... continuing for quite a while.”
At their core, most ETFs hold a well-defined basket of stocks or bonds and thus resemble index mutual funds, which also have flourished in recent decades. By holding a known list of stocks or other assets, ETFs are transparent.
“One thing that makes ETFs so popular is that you know exactly what’s in them,” said Ken O’Keeffe, managing director of indexes at Russell Investments, who also attended the “Global Indexing and ETFs” conference at the Arizona Biltmore. “You don’t have to wait for the semiannual report to come out.”
The investment approach known as indexing is less costly than active management, where professional money managers try to beat the market by picking stocks or bonds.
Indexing is cheaper because it’s not necessary to hire highsalaried portfolio managers and send them on research trips around the country or globe. Because expenses erode investment performance, the lower shareholder-borne costs typical of ETFs and index mutual funds give them a tailwind.
In addition, active managers often get caught on the sidelines
Characteristic
What they are
Trading
Ongoing costs
Taxation Shares representing ownership in individual U.S. or foreign companies.
Typically none.
Vanguard MSCI Emerging Markets
iShares MSCI EAFE
PowerShares QQQ
Vanguard Total Stock Market ETF at times when market rallies commence or they make other blunders.
Active mutual-fund managers generally fail to outperform their benchmarks over various time frames, reports S&P Dow Jones Indices. For example, 68 percent of active managers lagged the S&P 500 over the five years ending June 30, and even higher percentages underperformed over shorter periods.
“Investors have come to realize that a lot of active managers can’t provide the returns,” Matturri said.
The debate, O’Keeffe said, no longer is about whether index funds have a place in most investors’ portfolios. “It’s about how much indexing you should use,” he said. Portfolios that hold dozens if not hundreds of stocks, bonds or other assets. Portfolios that hold dozens if not hundreds of stocks, bonds or other assets.