When advisors mention exchange-traded funds, some clients are clueless, as though their advisor were speaking in a different language. And while some clients may know exactly what ETFs are, many others have nothing more than a vague notion, conflating them with mutual funds or index funds.
For advisors managing fund portfolios for clients, bridging this education gap is more important than ever. An explosion in new ETFs in recent years presents myriad opportunities for advisors to engineer portfolios for exposure and diversification while positioning for greater income.
Despite the bear market, ETFs took in more than $615 billion in 2022 — their second-biggest year ever in a history that began with the introduction of the first such product, SPDR S&P ETF Trust (SPY), in January 1993.
In 2022, ETFs in various areas posted record inflows, including defensive equity sectors, traditional U.S. value, smart beta, dividend stocks and Treasurys. Industry projections have total inflows rising to $1 trillion in 2023 — likely a realistic figure, judging from a strong close in 2022.
As a result of a market synergy where more inflows fuel variety and greater variety attracts inflows, ETFs are offering increasing opportunities for structuring fund portfolios with greater precision, lower costs and improved risk management.
As increasing inflows give rise to new ETF products, identifying opportunities for clients is becoming more time-consuming. A helpful resource for researching them efficiently and comprehensively is a screening tool offered by the ETF Research Center.
A lack of familiarity with ETFs understandably can lead to client resistance, so advisors seeking to add them to portfolios should plan for client meetings. Of course, advisors need to explain this fund form's fundamental advantages over mutual funds, including potentially higher income, trading flexibility, the absence of onerous minimums, loads and withdrawal fees, and avoiding inconveniently timed distributions.
This should help prepare the ground for a practical conversation about the growing variety of opportunities. Here are some talking points to keep in mind:
1. Using passive ETFs merely as a substitute for index funds was your father's ETF strategy.
No longer are these funds just a more flexible way to track major indexes or sectors. As they've come of age over the past decade, they've started enabling access to the full spectrum of investment markets.
Moreover, ETFs are going where other investment forms haven't, allowing tightly focused investment in specific industries, subsectors and themes — from clean tech to nuclear energy, investment banks to regional bank to global financial firms, and to highly specific technology themes (genomic developments, EV vehicles, commodities, managed futures), and so on. So abundant is ETF variety that if you just type a theme into Google, adding "ETF," you can usually find an example.
