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Inside ETFs: A Reality Check

February 10, 2012
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The Inside ETFs conference last month was a great opportunity for an ETF analyst like me to escape my ivory tower.

Yes, I got to doff my pointy-headed cap and listen to the day-to-day challenges and opportunities that ETFs present to the advisors who use them.

It got me thinking in fresh ways.

It’s All Relative

Right off the bat, I spoke with one advisor about two competing ETFs, sharing my keen insight about how fund “A” had roughly double the fees of fund “B,” and why this was hard to justify, given their similarities.

The advisor politely nodded and reminded me that even the more expensive ETF was still quite a bit cheaper than competing mutual funds. The advisor’s point simply conveyed that the original attraction to ETFs over mutual funds on the basis of fees remains strong.

The extension to this argument is that slight differences in cost shouldn’t be the sole driver of ETF selection for many investors.

For example, some U.S. equity sector ETF issuers are fighting a price war, undercutting each other by a basis point.

But even the most plain-vanilla funds have some difference—whether trading costs, portfolio exposure or performance history—that really should be a lot more important to investors than a 0.01 percent disparity in annual cost.

Needs Improvement: Works Well With Others

Advisors, like the one above, showed up in record numbers to this latest conference, underscoring how ETFs continue to be a major growth engine in the money management industry.

But even as the ETF industry lurches forward with more products, more assets under management and downward pressures on fees, some basic challenges remain unaddressed.

The most common complaint I heard wasn’t about the funds themselves, but instead about how difficult it can be for advisors to display aggregate portfolio positions to their clients.

Advisors need to provide a simple pie-chart position statement to each client that shows their net asset allocation: “x percent” domestic equity, “y percent” international equity and “z percent” bonds, etc.

But when a client owns a mix of ETFs along with individual stocks and bonds, the ETF ticker often gets reported as a domestic equity in the asset class breakdown. With the hundreds of bond, commodity and currency ETFs on the market—to say nothing of funds with mixed assets, reporting each ETF as an equity to the client will be wrong in many cases.

 

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