After 20 years, ETFs finally find their way into institutions’ core holdings.
When ETFs first came to market 20 years ago, they were primarily used as trading tools for tactical traders. It was only much later that they found a foothold among strategic and tactical asset allocators.
But in the past couple of years, ETFs have emerged as attractive conduits for core exposures among the institutional crowd, Daniel Gamba, head of the Americas iShares Institutional Business at BlackRock, told IndexUniverse’s Cinthia Murphy in a recent interview.
That trend, Gamba says, has just begun to take shape and shows promise of fueling a whole new wave of growth for the $1.5 trillion ETF industry.
IndexUniverse.com: How do you see the evolution of institutional use of ETFs?
Daniel Gamba: It has come a long way. Early on, ETFs were used as capital market instruments—they were really something for tactical traders to express their opinions. They would use ETFs to equitize cash or to hold a short-term position. But over the past 15 years, the uses have developed and now there are two key uses that are really dominating the discussion on an asset manager level.
One is tactical asset allocation, the biggest illustration of that being ETF strategists—third-party managers creating portfolios based just on ETFs. In some cases, they do strategic asset allocation and tactical asset allocation for their own client portfolios or, in some cases, for retail portfolios. But even for institutional portfolios, they do tactical and strategic asset allocations using ETFs. That is a huge segment that’s really grown in the past three to five years.
But there’s another more recent trend in the past two to three years, which is institutional investors, such as insurance firms and pension plans looking for core buy-and-hold passive exposure through ETFs. This is one area of growth where you see ETFs replacing other investment vehicles. In the past 40 years or so, the most prevalent vehicle for the majority of those assets—in pension plans—happened to be commingled funds and separate accounts, which are normally low fee.
What’s happening most recently with ETFs is that people are starting to question whether they should be using commingled funds or separate accounts. Instead, they’re starting to think about ETFs for those types of core exposures. That’s a long answer to say that institutional use of ETFs has gone from trading to strategic and tactical asset allocation to, now, core use of ETFs.
IU.com: But for an institution like a pension fund, isn’t using an ETF kind of an expensive proposition relative to some of the in-house allocations that they do?
Gamba: Yes; it used to be massively expensive. In fact, it used to be multiple times more expensive than what they can do with a separate account, which is why the only use for ETFs that they would justify was for a tactical position or for a sort of overlay. But what happened is—especially with the “Core” series that we listed last October—ETFs have gotten more competitive, and offer valuable positions that, in some cases, justify their increased use as buy-and-hold tools. Ultimately, investors are willing to place a premium on the liquidity that many ETFs offer.