Prepackaged ETF portfolios, now estimated to top $84 billion in assets, are getting a boost from a rise in popularity of passively managed funds. But perhaps a bigger catalyst for growth in coming years, say experts, is a regulatory push for advisors to focus on low-cost and transparent investments in retirement accounts.
In particular, the coming imposition of the Department of Labor’s new rule imposing a higher fiduciary standard for FAs in working with clients’ nest eggs is being seen as creating a sort of perfect storm for such ETF-centric managed accounts.
“The ETF managed portfolio seems to be moving into the market’s sweet spot,” says John McCombe, president of Richard Bernstein Advisors in New York, which manages $3.1 billion. “The whole process of putting together this type of unified managed account feeds into this whole environment of increased regulatory scrutiny that advisors are going through these days.”
Since entering the ETF managed portfolios market in 2010, the independent RIA has averaged client asset growth in those accounts at a compound annual rate of more than 80%, he notes. In fact, Morningstar now ranks Richard Bernstein Advisors as a top 25 player in the industry. The Chicago-based investment researcher lists the advisory firm with nearly $984 million in related assets, as of the second quarter.
At the top of that list is longtime market leader Windhaven Investment Management. At the end of June, the Boston-based advisor had more than $10 billion in AUM. But it’s now part of Charles Schwab, which itself manages another $4 billion-plus in ETF managed portfolio assets.
In fact, four of the market’s top six participants are big fund companies, notes Morningstar ETF analyst Ben Johnson. “We’re seeing an evolution in separately managed accounts using all-ETF portfolios where many of the largest players are now traditional asset managers,” he says.
For example, BlackRock just started in Q2 reporting its entry into ETF managed portfolios to Morningstar’s database. It had nearly $3.6 billion in ETF managed assets heading into July. Other leading asset managers included in the report are State Street Global Advisors ($4.7 billion) and Vanguard ($3.6 billion).
Richard Bernstein Advisors
“In the early days, the market was defined by RIAs offering their ETF-based asset allocation models to other advisors,” Johnson says. “In the past few years, though, we’ve seen a notable change as large fund companies take part.”
For years, major asset managers were content to be sponsors and suppliers of ETF managed portfolios, he adds. “They still are to some degree, but it’s clear that fund companies are putting more emphasis on becoming players in this market – they’ve clearly taken the gloves off and are less shy about becoming direct competitors,” Johnson says.
Part of that transformation can be credited to the 200%-plus increase in managed assets that Morningstar’s tracking of ETF managed portfolios shows over the past five years. In 2011, for example, its self-reported industry database followed 95 firms with a total of $27 billion in assets. By the second quarter of 2016, that was up to 151 advisors with a combined $84 billion assets under management.
Strong client sentiment for passive, low-cost funds is likely to keep building momentum for ETF managed portfolios, Johnson notes.
The move by larger asset managers into this market, the analyst says, “should help drive fees down in coming years – making the market even more appealing” to advisors trying to deal with greater regulatory pressures.
Such ETF allocations also pose another benefit for advisors adopting them into client portfolios, points out McCombe of Richard Bernstein. “The ETF multi-assets separately managed account can take much of the guesswork – and reduce regulatory concern – out of the process for advisors trying to cobble together diversified allocations for investors,” he says.
Trading takes place in client accounts and can be directed by the SMA’s manager, McCombe says. And those transactions are implemented at the distributor’s level. “So unlike with mutual fund portfolios, the FA is able to become aware of changes taking place across accounts right after they happen – not a month or quarter later,” he says.
As ETF managed portfolios mature as a marketplace, McCombe adds, heightened competition from bigger asset managers is likely to make it more difficult for smaller RIAs to carve out space.
But overall he believes a combination of lower fees and higher transparency offered by ETF managed portfolios is going to be a boon for attracting more assets by advisors.
“Unlike other types of separately managed accounts,” McCombe says, “ETF managed portfolios seem to be moving in a direction that dovetails the pending DOL rule’s implementation and other coming regulatory changes – not against them.”
Bob Smith, chief investment officer at Sage Advisory in Austin, Texas, agrees. The RIA, which manages a total of more than $12 billion, oversees slightly less than $3 billion in ETF managed portfolios. It’s ranked in Morningstar’s latest research as the industry’s tenth-biggest player.
“Managers that survive and those who don’t under these conditions of increased competition and more regulatory scrutiny will come down to the breadth of offerings – not necessarily how exotic their strategies might be,” he says.
Smith points out that most RIA ETF SMA firms in Morningstar’s new report now offer at least four or five different portfolio strategies.
“In this day and age with all of the pressures coming from the DOL and the added costs of doing business under increasing regulatory scrutiny,” Smith says, “the Vanguards and BlackRocks of the world are getting tougher and tougher to compete against purely on a costs basis – they’ve got a definitive advantage in this environment.”
Hopefully for indie shops like his, he adds, competitive trends and regulatory reforms will wind up leveling the ETF managed portfolio playing field.
“The promise in this marketplace is that investment advisors who can offer low-cost portfolios and strong longer-term performance will still find opportunities to compete,” Smith says.
As he sees it, smaller players who can offer well-diversified portfolios made up of best-of-breed ETFs will still find room to compete. “After all, most of the big fund companies are largely using their own proprietary products to play in this market – and that should provide an opening as higher fiduciary standards become more commonplace,” Smith says.