Home' Trinidad and Tobago Guardian : February 11th 2016 Contents BG16 OF MUTUAL INTEREST
BUSINESS GUARDIAN www.guardian.co.tt FEBRUARY 11 • 2016
Don t try to beat the market...
The adage got pounded for
years into investors, and
many began to live by it.
After seeing so many invest-
ments fail to keep up with
the Standard & Poor s 500 index, investors
put their money instead into low-cost index
funds. They were happy to get returns that
were the same as the market.
Now, though, a growing number of funds
are pitching themselves as ways to get bet-
ter---or more stable---returns than the market.
But instead of hiring stock pickers to get there,
these mutual funds and exchange-traded funds
track different kinds of indexes.
Many are super-specialised. Some focus
only on high-quality companies with stable
earnings. Others hold only stocks that have
had smaller price swings than the rest of the
market. Some hold equal amounts of all the
stocks in the S&P 500 index.
They stand in contrast to the S&P 500 index,
which gives the most weight to the most valu-
able companies, a strategy known as "cap-
The industry calls these funds "smart-beta"
options. It s a play on the financial term "beta,"
which measures how volatile an investment
is compared with the market.
Martin Small, US head of the largest ETF
provider, iShares, recently talked about the
big growth for this breed of funds.
Answers have been edited for clarity.
How much interest is there for these new
types of funds?
You can see it in the flows. In 2015, we had
roughly US$21 billion into "smart-beta" ETFs
(across the industry). Call that about 9 cents
or 10 cents on the dollar that went into smart
What do you make of the term "smart
We don t like the term. "Smart beta" implies
that cap-weighting is dumb or bad, and that
is totally not true. All one has to do is look
at the returns going back to the 40s of cap-
weighted indices, and they have done pretty
If you had just owned the US stock market
or international developed-market equities
for 20, 30, 40 years, you would have done
fine with a cap-weighted approach.
I think the industry generally doesn t like
the term, but no one has, as of yet, come up
with another term that has seized the popular
So why do anything other than traditional
With more technology, more data, more
understanding of markets, we can do more.
Some people want something other than the
cap-weighted return. They want an outcome,
like some people want market exposure but
lower risk. Other people want to outperform
If your desire is to do one of those two
things, then using a cap-weighted strategy
doesn t meet your goal.
So are investors usually in one camp or
the other? Either vanilla index ETF or a
More often, what I see now is that people
are blending them. So someone takes money
out of our S&P 500 fund, IVV, and adds it to
LRGF, which is our multi-factor smart beta
fund (It invests in an index that emphasizes
certain slices of the market, based on quality,
size and other factors). They might split it
Other investors who have less of a risk
appetite, they look at these minimum-volatility
strategies. That was a huge category for us
last year, and US$10 billion flowed into those
funds (across the industry).
Those funds are designed to perform in a
way that smooths out the ride, so that when
markets go soaring way high, they get most
of that return, but when markets go way low,
they capture less of that downside. These
things now have track records.
Is there a minimum age that a fund has
to be, before people are willing to consider
it?It s highly dependent. In general, after one
or three years, you see people believe more
than they did in the beginning. But there are
also ways to back-test it.
So people believe in these low-volatility
People are using minimum-volatility funds
as their core, as a better way to do cap-weight-
ing indexing, particularly if what you anticipate
is more volatility.
I ve watched them leg into it, but there are
many early signs that investors are holistically
replacing their S&P 500 investing with some-
thing like USMV because everyone is telling
them there is going to be more volatility.
Is it mostly older investors who are
closer to retirement who are most inter-
We ve seen a really big mix. Millennials,
those who were skeptical of stocks in general,
look at these as a better way of doing indexing,
like this is just the next generation of indexing.
STAN CHOE, AP Business Writer
Mutual funds have long been a popular choice for many
investors because of the wide range of options available and
the automatic diversification they offer. However, depending
on what you re wanting to get out of your portfolio and your
individual risk tolerance and investing strategy, it may be time
to switch from mutual funds to exchange-traded funds (ETFs).
Mutual funds and ETFs share many benefits. In addition,
ETFs are generally more tax-efficient and affordable than tra-
ditional mutual funds. Like any investment product, ETFs still
have their drawbacks. A clear understanding of what ETFs can
offer and what type of investor they are best suited for will help
you determine whether they may be a smarter choice for your
portfolio based on your current investment goals.
ETFs: The basics
ETFs are basically like mutual funds that are traded on the
open market. Like mutual funds, ETFs pool contributions from
shareholders and invest in a range of securities. Also like mutual
funds, ETFs may invest in different securities depending on the
goals of the fund in question. Unlike mutual funds, however,
ETFs are primarily passively managed funds that generally invest
in the same securities as a given index.
Investors can buy and sell ETFs on the secondary market just
like stocks or bonds, making them highly liquid. In addition,
the market-based trading of ETFs means that no assets need
to be sold off to fund shareholder redemptions, as is common
with mutual funds. ETFs can also use in-kind creation and
redemption processes, in which the investor issues or redeems
shares of the ETF in return for a basket of stocks that correspond
to the fund s portfolio, rather than for cash.
Advantages of ETFs
Among the many advantages of ETFs is their relatively low
expense ratios compared to similar mutual funds. Of course,
those ETFs that are actively managed do incur slightly higher
costs, but are generally still lower than mutual funds. ETFs don t
carry load or fees like mutual funds do, though buying and
selling shares does incur commission charges like any other
trading activity. However, if you are looking to make a single
large investment, rather than several small purchases over time,
ETFs can be vastly more affordable than mutual funds.
The fact that funds aren t typically required to liquidate assets
to cover shareholder redemptions (since shares can be bought
and sold on the open market or redeemed for baskets of stocks)
further decreases the tax impact of ETF investing.
Who are ETFs best suited for?
Because most ETFs are indexed funds, they are best suited
for investors who want to employ a buy-and-hold strategy and
trust that the market will generate positive returns over time.
Indexed ETFs only invest in the stocks on an underlying index,
so they do not require an active manager to analyse potential
trades and choose how to invest based on research and instinct.
Unlike mutual fund investment, which requires a thorough
analysis of the manager s track record, investing in an indexed
ETF requires only that you be bullish on the underlying index.
Whether ETFs are a good choice for you depends on what
you want to get from your investment. If you re looking for an
affordable investment that is likely to generate moderate returns,
sacrificing the potential for higher gains in exchange for lower
risk, then ETFs can be an excellent option.
Of course, some ETFs are significantly more risky namely,
leveraged and inverse ETFs. These funds are managed with the
goal of generating some multiple of an index s returns, usually
two or three times each day s return.
While these can be money makers if the market cooperates,
market volatility tends to make these funds less than profitable
over the long term.
A leveraged ETF can be lucrative if you are interested in main-
taining an active trading style and making more frequent trades
rather than holding an investment for long periods, but you
must have a fairly high risk tolerance.
When are ETFs the right choice?
It may be the right time to switch to ETFs if mutual funds
are no longer meeting your needs. For some, switching to ETFs
makes sense because the expenses associated with mutual funds
can eat up a substantial portion of profits. In addition, if you
have no need of annual investment income and prefer an invest-
ment that will grow in value over time without increasing your
tax liability each year through capital gains distributions, ETFs
may be a more suitable option.
If you are planning for retirement, ETFs can be a useful
addition to your investment portfolio. Though the number of
distributions made by ETFs is low, using your retirement funds
to invest provides an additional layer of tax protection.
Both mutual funds and ETFs have their benefits, but it may
be time to assess whether the investments in your portfolio are
serving your goals in the most effective way. If you re paying
fees for a fund with a high expense ratio or finding yourself
paying too much in taxes each year because of undesired capital
gains distributions, switching to ETFs is likely the right choice
If your current investment is in an indexed mutual fund, look
for an ETF that accomplishes the same thing at a much lower
cost. If you prefer an actively managed fund that seeks to beat
the market, mutual funds certainly offer more options than
ETFs, though high-risk/high-reward ETFs are becoming increas-
ingly common. If both mutual funds and ETFs meet some of
your investing needs in different ways, of course, there s no
reason you can t simply choose both.
Q&A: Investors using index
funds to try to beat the market
The right time to change from mutual funds to ETFs
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