The ETF industry: An insider's view

07 April 2017 | Topical insights


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Joel Dickson

Joel Dickson, Vanguard's global head of investment research and development and a principal in Vanguard Investment Strategy Group, was a featured speaker at "Inside ETFs", a conference held recently in the United States. In this interview, Mr Dickson discusses trends, tactics and all manner of timely topics, some of which have implications for British exchange-traded fund investors.

What is the state of the ETF industry today?

Joel Dickson:It continues to grow; that's certain. What really struck me about the Inside ETFs conference was that there were a lot of new folks, people we haven't run into as regularly, new entrants to the ETF market. As we've seen the development of the marketplace, we're seeing a lot of new entrants, whether they be small start-up asset managers trying to launch just a couple of ETFs and find their niche in the marketplace or established traditional mutual fund managers trying to find another distribution channel for their active strategies through ETFs.

You spoke on a panel about the future of ETFs. What are your expectations?

Joel Dickson: I think a transition has occurred. Go to this same conference four or five years ago, and the discussion was more around "What are ETFs?" Now it's much more "How do you use them to build portfolios to meet investors' needs, in order to help them succeed?"

It's very much more about ETFs as a vehicle, not as a strategy. Sometimes I hear, "Do you have an ETF in your portfolio?" as if ETFs were a separate asset class like stocks or bonds. They're not. They're a vehicle for an investment strategy. How to use those to build portfolios was much more the focus this year and going forward that will remain the case.

What can you tell us about active management as a strategy in terms of the evolution of ETFs?

Joel Dickson: In many ways, the delineation between active and passive has lost its meaning. The real difference is between product discussion and portfolio implementation. At the product level, there might be an active fund – equity share selection, for example – or there might be a passive fund – a market-capitalisation-weighted portfolio for accessing a market like European equities or emerging markets or fixed income.

At the end of the day, the difference between the product and the portfolio is that most people use these strategies to have some active representation that is different from, say, the broad overall market. Maybe it's because of the investor's risk preferences or time horizon or a particular home bias. At other times it's a desire to try to outperform the market.

What we're seeing is a confluence of active and passive. We see it in the form of smart beta, which often involves taking an active strategy, creating an index out of it, and then tracking it. So it's an index fund, but the underlying strategy is very active. Or people are using market-cap-weighted – what we would call traditional passive/indexed – vehicles to express active views. For example, if you like European equities, you might use a Europe ETF market-cap-weighted to overweight Europe in your portfolio.

At the conference, you said that if ETFs were to exceed traditional funds in terms of total assets, it won't happen because of indexing but because of active management. What did you mean by that?

Joel Dickson: I think the growth of ETFs – and index mutual funds that have also grown over the last several years – has led some to assume there's been some sort of major takeover of passive management or that everyone is moving to indexing. Some of the characteristics of such a shift are evident, such as the growing preference for low costs and broad diversification, and I do think high-cost active strategies are, in essence, being replaced by lower-cost approaches.

But active management hasn't gone away, and it's not going to go away. It's evolved. The use of smart beta and passive market-cap-weighted ETFs are ways you're seeing passive approaches being used to implement active strategies. Now you can use ETFs to express these views more efficiently than you could several years ago. And so my comment about the growth of the ETF industry is just a reflection that most people ultimately want some sort of active approach in their portfolio.

The changing political and policy environments must also have been on people's minds.

Joel Dickson: Most definitely. There was discussion about the potential for a "black swan" event (that is, an unanticipated major event that shakes the markets) in 2017. And there was a lot of concern about comments from the Donald Trump administration on particular aspects of policy or the investment industry, any of which could change the market outlook. We're already starting to see that with regard to regulatory modifications such as the regulations on the activities of major US banks and a delay in implementing new rules about financial advisers' fiduciary duties to clients.

This happens any time there's a new administration. There are always policy differences, and it takes time to figure out what they might mean for investors.

Where does the adviser fit in with all of this?

Joel Dickson:There's an adage that holds that an investor could have access to the best, lowest-cost, most efficient products and yet not use them the right way. Left to their own devices, investors tend to do things like chase performance and ignore investment costs. That sort of behaviour has been consistent over time, and we're now seeing it with ETFs. It can be the biggest obstacle to an investor's long-term success.

This is why we at Vanguard devote so much attention and research to behavioural coaching, as it's one of the biggest potential value-added benefits of a professional advisory relationship.

Important information:

This material is directed at professional investors and should not be distributed to, or relied upon by, retail investors.

This material is designed for use by, and is directed only at persons resident in the UK.

This material was produced by The Vanguard Group, Inc. It is for educational purposes only.

The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.

The opinions expressed in this material are those of individual authors and may not be representative of The Vanguard Group, Inc.

Any projections should be regarded as hypothetical in nature and do not reflect or guarantee future results.

Issued by Vanguard Asset Management, Ltd, which is authorised and regulated in the UK by the Financial Conduct Authority.



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