When I started in this business 20 years ago, ETFs were a niche vehicle. By now, it’s clear that exchange traded funds (ETFs) occupy a prominent place in the advisory toolkit, with expanding use across advisor channels.
As we know, RIAs were early adopters; as fiduciaries operating in a fee-for-advice model, many incorporated ETFs in portfolios when they were first brought to market. Today ETF use is rapidly expanding onto other platforms, from independents and wirehouses to digital advice.
As for what might be driving this growth, I see the convergence of three major trends in my conversations with clients. First, a difficult, low-return investing environment demands highly flexible strategies that can nimbly adjust to uncertain market realities. Second, investors are becoming increasingly educated and cost-conscious, and expectations for advice are climbing ever higher.
And finally, as the DOL fiduciary rule puts a new spotlight on fees, advisors are seeking additional ways to proving their worth across all three trends. For many investors, ETFs are proving their worth as a supplement or alternative to active strategies and even single securities.
Where to look now
Equities have traditionally been the “entry point” for new ETF users. Today, however, RIAs are once again keeping pace with institutional investors, embracing a broader and more advanced suite of ETF options and putting them to work in client portfolios.
With that in mind, as we head into the second half of 2016, following are five key portfolio construction themes that I’ve been hearing from advisors during my travels:
- Bonds. RIAs have recognized that fixed income ETFs can offer the same core benefits—choice, flexibility, low cost—as their equity counterparts do. As a result, many advisors are supplementing existing bond allocations with ETFs in an effort to seek enhanced returns and diversify both equity and interest rate risk.
- Smart beta. ETFs are being used as an efficient means of incorporating factor exposures—such as minimum volatility, momentum, size and quality—into portfolio allocations.
- Income. In a persistently low-yield environment, ETFs are being used to harness the income potential of multiple asset classes, including municipal bonds, preferred stocks and dividend-growing stocks.
- Single country exposures. As global markets and economies continue to diverge, we’re seeing more RIAs turning to single country ETFs as a way to fine-tune international holdings as well as express tactical investment views.
- Client education. Outside the advisor community, clients generally have low awareness and knowledge of ETFs. The lack of familiarity can sometimes lead to skepticism or misconceptions, making education a necessity as well as an opportunity to differentiate.
Most of these themes aren’t unique to ETFs, of course. And as with all investments, there are risks to each. Factor exposures may not perform as expected or even detract from returns in certain market environments; bonds are subject to default risk or price declines if rates rise; and internationally investing, particularly in single countries, can be riskier than staying at home.
That said, the rise of the ETF has meaningfully deepened the solution set for advisors who are tackling these themes. As the industry, markets and client needs all continue to evolve, adding these vehicles to the toolkit may help advisors better position their business for success.
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Hollie Fagan is head of BlackRock's dedicated Registered Investment Advisor consultant team. Her team is responsible for distribution, marketing and investment support for mutual funds, separately managed accounts, alternatives and iShares ETFs to RIAs, as well as portfolio construction consulting and risk analytics.
The strategies discussed are strictly for illustrative and educational purposes and are not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. There is no guarantee that any strategies discussed will be effective. The iShares Funds are distributed by BlackRock Investments, LLC (together with its affiliates, “BlackRock”). iS-18824