Be Aware Of Evolving ETF Characteristics

February 13, 2015


This article is part of a regular series of thought leadership pieces from some of the more influential ETF strategists in the money management industry. Today’s article is by Christopher Hugar, portfolio manager, of Buffalo, New York-based Nottingham Advisors.


At Nottingham Advisors, we construct portfolios using exchange-traded funds. As a so-called ETF strategist, one of the big parts of our value proposition involves leveraging the distinct benefits of ETFs; namely, that they’re:


  • Passively managed
  • Broadly diversified
  • Low cost
  • Tax efficient
  • Liquid
  • Transparent


These are all the reasons we grew to admire ETFs in the first place. Lately, however, we’ve seen the evolution of the industry slowly push ETFs away from these core benefits as providers all work to deliver access to new types of investments. In fact, several of the newest products fail to hit the mark on several of the six points listed above.


This doesn’t mean that ETFs are no longer the best option for many investors (they are), but it’s at least enough to stop speaking in generalities.


Active And Factors And Screens

Let’s look at 2014, for instance.


A quick run of the numbers reveals 198 exchange-traded products stamped with a 2014 inception date. With the low-hanging fruit eliminated from 2005-2013’s torrid run in exchange-traded product development, issuers are now pushing past pure passive to provide investors with “new and improved” exposure to various types of investments.


In fact, the aggregate of alternatively weighted and actively managed strategies launched in 2014 equaled roughly that of traditionally weighted strategies.





For the indexing purists out there, this split alone is enough to make them squeeze their SPIVA scorecard (S&P’s empirical evidence of indexing superiority) just a little bit harder.


Zeroing In On Niche Markets

What’s more, a cursory glance at the 98 traditionally weighted ETPs launched in 2014 reveals that—absent a few additions to certain providers’ “core” product suites—the bulk of the new products launched provide exposure to various niche markets from Qatar to low carbon, and everything in between.


Gone are the days of wide-spread “broad market” launches.


One specific example is the PureFunds ISE Cyber Security ETF (HACK). HACK has 30 holdings, and it’s specifically designed to track the cybersecurity industry. This isn’t necessarily a bad thing, however, as HACK’s narrow view actually allows investors to have more precision.


Previously, ETF investors looking for this type of exposure could only use broad-based technology products to gain peripheral access. Investors have clearly taken notice, and since launching in November, several high-profile hacking scandals have propelled the fund to slightly more than $200 million in assets.


The chart below illustrates HACK’s steady growth since inception.


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