Asking the Right Questions About Active ETFs

Everyone wants low-cost, transparent access to the best managers--you just need to ask them

Scott Burns 6 February, 2012 | 12:00PM
Facebook Twitter LinkedIn

At IndexUniverse's recent Inside ETFs conference, active ETFs were once again in the spotlight. With the impending launch of the active ETF version of PIMCO's popular Total Return fund the furore over whether or not active ETFs would be successful seemed to take on a heightened level importance with the industry and the media. While a lot of pros and cons were bandied about over the issue, it struck me that no one was in fact asking the right questions, nor were they asking the right people.

Loaded Questions, Loaded Answers
If you walk up to someone on the street and ask them, "Are you interested in active ETFs?" you'll probably get a very strange look. I know I generally do. Now, if the person you ask happens to be an informed investor, they will probably respond something more akin to, "ETFs can be active?" or "No, I don't want an active ETF."

Getting those answers are practically predictable not because the answer is so obvious, but because the question is so flawed. Of course people who don't even know that ETFs can be active or think in terms of "mutual fund equals active" and "ETF equals passive" will say, "No." The question is loaded from the start and therefore the answer is predictable, but not informative.

Selected Audience, Selected Answers
At the conference, during the traditional ETF industry round-table panel, one of the heads of the largest ETF providers asked the 1,000-plus people in attendance, by show of hands, to signal if they were interested in active ETFs. Perhaps 20 or so hands went up. Despite the resounding show of disapproval, this random bit of evidence far from ends the discussion as some anti-active ETF people would have liked. For one thing, raising hands in a crowd is not a very scientific way of doing research. More importantly, the selection bias of asking that audience that question is overwhelming. By and large, attendees of ETF conferences are decidedly pro-passive investors who look to themselves as the generators of alpha in their portfolios. Again, the answer to the question of active ETFs from this crowd is fairly predictable, but not informative.

The Right Question, the Right Audience
Let's ask the same question about active ETFs to investors, but pose it in an entirely different way: "Are you interested in low-cost, tax-efficient, and transparent access to the best money managers with the additional benefit that you can access them from any brokerage account?"

What? You would like that? Well then, you are interested in active ETFs!

What sane investor says "No" to that proposition? Assuming the investor is interested in active management in the first place, of course he or she will want access to the best active strategies in the wrapper and technology that best suits his or her needs.

As for the audience, the asset management industry people (both ETF and traditional mutual fund) asking those questions would do themselves a huge favour if they stopped thinking about today's ETF investor and start thinking about tomorrow's ETF investor. In fact, they should just stop thinking about "ETF investors" altogether and simply think about "investors."

Ultimately, investors want and deserve all of the advantages the ETF structure and stock exchanges can provide whether the underlying strategy is active or passive. For their part, fund companies and the broader asset management community need to open their eyes and start asking the right questions to the right people. In the end, the investor is going to get what he or she wants--one way or another.

This article was originally published February 2012.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

Facebook Twitter LinkedIn

About Author

Scott Burns  Scott Burns is the Director of ETF Analysis at Morningstar and editor of Morningstar ETFInvestor. Click here for a free issue.