Talking To Clients About ETFs

We’re all the cocktail party guy. Just by reading this, you’ve set yourself into a rarefied universe of people who know that the initials E, T and F can stand for something other than early termination fees (ETF) or electronic funds transfers (EFT) or (and I’ve actually heard this) a splinter genre of electronic dance music (EDM).

Based on surveys we regularly do of our readership both here and for our magazine, the ETF Report, chances are, you’re a financial advisor, a sophisticated individual investor, or you work in the asset management business.

You are really not the ones who have a problem.

The people with the problem are most likely your clients.

When we surveyed you all this summer, the responses were encouraging. The levels of sophistication in thinking about things like alternatives and smart beta were great. (You can see the results here). But what really struck me was this chart. When asked what the most important part of the ETF decision process was, this was your response:

This points to two things in particular.

First, you all really, really care about costs, and I get that. The bulk of the nearly $450 billion in new assets that have come into ETFs this year have come into super-low-cost plain-vanilla index funds. There’s a flat-out fee Armageddon happening in ETF-land, and investors are definitely the winners.

The second item—index methodology—is also super encouraging. While cost is important, being in a low-cost fund that’s not providing the exact exposure you want is pointless. If I think small-caps are the way to go, a 3-basis-point large-cap fund is a bad compromise, no matter how low its price.

What About Investors?

Contrast the above sophistication with this chart from the upcoming webinar on Thursday I’m hosting with PowerShares by Invesco (register here!). The folks from Invesco Consulting did a raft of surveys of actual investors, mostly gauging how they react to certain language around investing, and the results are insightful for anyone who gets trapped in the cocktail conversation on a regular basis. Here’s just one slide:

What’s interesting here is the subtle difference between how advisors are thinking about things and how, perhaps, they should be communicating. Yes, low expense ratio matters, but simply going to clients and saying “you’re in this because it’s cheap” may not resonate. In fact, in this case, the end investor is being—perhaps unintentionally—brilliant.

Headline cost is just one component of your actual experience. What matters is the whole package—what you’re getting for that cost. In economic terms, this is just like looking at a market cap versus a P/E ratio.

Market cap is just telling you the “price” for a whole firm. P/E is telling you what you get for your invested dollar. Seen from the “P” side, it can be thought of as efficiency; seen from the “E” side, it’s an expression of value.

Language matters. When it comes to complex topics, it matters a lot.

(You can learn more about how investors respond to different language around complex ETF topics in this week’s webinar. Register here.)