Opportunities Abound In The ETF Arms Race

| June 23, 2010 | 0 Comments

It’s truly amazing to watch the ETF industry blossom.  ETF providers are constantly rolling out new and inventive products.  All in an effort to capture more of your investment dollars.

As the resident ETF expert around the office, my email inbox is always filled with questions about new ETFs.  Colleagues and readers alike want my opinion on the latest product launches.

And for good reason… the ETF industry is evolving at breakneck speed. You can invest in just about any asset class with an ETF these days.

Stocks, bonds, currencies, commodities, treasuries, precious metals, and even MLPs are all easily accessed by using ETFs.  ETFs that can be bought with your run of the mill brokerage account.  It’s opened up a lot of markets previously off limits to most individual investors.

The evolution of the ETF market is showing no signs of slowing down either.  The arrival of actively managed ETFs is transforming the industry once again.

You might have seen or thought about buying one of these new ETFs.  I’ll tell you what I think of them in a minute.

First, what is an actively managed ETF?

Actively managed ETFs are more like mutual funds than traditional ETFs.

Traditionally, ETFs are passively managed.  That means they track an index like the S&P 500, the price of gold, or the value of a currency versus a basket of other currencies.

The only time the fund’s holdings are adjusted is when the index changes or when the ETF is rebalanced.

But actively managed ETFs are an entirely different breed.

Actively managed ETFs combine the benefits of ETFs like intraday trading, tax efficiency, fund transparency, and liquidity with active management.

It also means someone’s picking and choosing the ETF holdings.  The manager or investment team uses traditional portfolio management in an attempt to outperform a benchmark.

We’ve already seen some popular ETF families like PowerShares and WisdomTree jump into the actively managed scene.  And we’ve seen the advent of fund families like AdvisorShares who only offer actively managed ETFs.

So far, actively managed ETFs popularity has been limited.  But that could be changing.

Several of the leading mutual fund providers are leading a charge into actively managed ETFs.  Some of the largest asset managers like T. Rowe Price and Legg Mason are moving into the ETF business.

News of big mutual fund companies moving into the ETF business has sparked an arms race in the industry.  It’s driving big passively managed ETF providers like iShares to begin working on their own line of actively managed ETFs.

Once these major players launch their products, the popularity of actively managed ETFs could explode.

Personally, I’m a little bit skeptical about actively managed ETFs.

There are only a handful of managers who have shown the ability to consistently beat an indexed strategy.

I have to ask… Why would the most talented stock pickers in the world choose to work for an ETF instead of a hedge fund?

They surely won’t be able to generate anywhere near the fees they do in the hedge fund world.  (ETF investors are notoriously stingy when it comes to paying high expense ratios.)

And then there’s the question of transparency.

Passively managed ETF providers provide updated holdings on a daily basis.  Investors always know exactly what they’re investing in.

Will actively managed ETFs provide this level of clarity as well?

I can’t imagine managers being happy about disclosing their strategy on a daily basis.

The only way actively managed ETFs get around these obstacles is by increasing fees and limiting the clarity of the holdings.  This defeats two major benefits of investing in ETFs in the first place.

The bottom line is a bunch of new actively managed ETFs are coming. There are sure to be plenty of new and exciting opportunities.  But don’t be too quick to jump on the bandwagon.  Give these new ETFs time to develop a track record first.  Then you’ll be able to tell if they truly add value.

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Category: ETFs

About the Author ()

Corey Williams is the editor of Sector ETF Trader, an investment advisory service focused on profiting from ETFs and the economic cycle. Under Corey’s leadership, the Sector ETF Trader has become one of the most popular and successful ETF advisories around. In addition to his groundbreaking service, Corey is the lead contributor to ETF Trading Research, where he shares his insights about ETFs and financial markets on a daily basis. He’s also a regular contributor to the Dynamic Wealth Report and the editor of one the hottest option trading services around – Elite Option Trader.

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