Apr 07, 2011
How many ETFs do we need to follow in order to track the world? There is obviously no easy answer as it depends on how far you care to go. We've discussed before how there has been strong innovation in the world of specialized indexes and that this process has effectively allowed everyone to rearrange their portfolio exposures at virtually no cost. This used to be done through program trading of hundreds of securities and it was costly. Now you can swap 300 Preferred Stocks (PFF) for 14 Futures Contracts (DBC) for zero commission and a penny spread. Of course, a carpenters tools can create a wonderful piece of furniture -- or chop off a finger. But the opportunity for broad or targeted strategies is there.
Below is a visual for how the ETF market is structured in assets. The top few hundred represent the vast majority of the assets. The number of funds > $100 million is now 537. This is considered by some to be the level where profits are being made by the product provider. Clearly, this is low risk and high reward for an investment manager. If you can create a multi-billion dollar product, the benefits of scale are tremendous as you don't have to pay for star managers. $1 trillion in assets now surely going to $2 trillion and beyond someday. Most people we talk to still equate ETFs with SPY --- the understanding of ETFs is still very, very low. Then again, many people (even professionals) for some strange reason equate the fixed-income market with 30-year treasuries.
Separately, an update on the 'High-Quality' index. Recall all the hype for past year about overweighting 'high-quality'. While there is no one definition of what constitutes high-quality, it is implied that high-quality is synonymous with 'high credit ratings'. Does it work to overweight EQUITIES with high credit ratings and therefore underweight low credit equities? Maybe it does and maybe it doesn't but with so many ETF choices out there, this argument strikes us as pretty weak primary strategy. Someday, high-quality will be in favor --- and then again out of favor. But we have so many other options.
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