A flood of new exchange-traded funds are enticing many investors to move out of mutual funds and into these chic funds despite their relatively scant -- if not nonexistent -- track records. But one S&P analyst said that shouldn't stop investors from hoping on the ETF bandwagon.
Investors need not wait until an exchange-traded fund (ETF) has a long track record before buying shares, an analyst at Standard & Poor’s argues in a new report released this week.
“For the most part (ETFs) are passively managed,” said S&P equity analyst Todd Rosenbluth. “The track record is really just the past, it’s not indicative of the future.”
The issue is timely because asset managers, aware of money flowing from certain mutual fund categories and into ETFs, have been cranking out new ETFs at a fevered pace.
S&P Equity Research has identified more than 160 ETFs that have launched in 2011 alone, and Rosenbluth expects many more are likely to follow.
The flood of new funds underscores a choice faced by investors: Whether to wait until a new ETF has a track record or consider buying it immediately based on whatever information is available. S&P Equity Research opines that a three-year total record is a good tool for comparing actively managed mutual funds, but is less relevant when comparing ETFs.
Noting that the vast majority of ETFs are passively managed, Rosenbluth’s report argues that the iShares S&P 500 Index’s outperformance of its peers over the past three years “has less to do with decisions made by iShares and more to do with the characteristics of the underlying holdings in the portfolio.”
“What are the underlying holdings of the ETF?” Rosenbluth says. “If it owns stocks an investor favors, then you should pay attention to it. If they are expensive or risky, you should steer clear.”
S&P’s tools for a more systematic evaluation of new ETFs include its proprietary valuation methodologies and risk methodologies. Those tools, along with expense ratio and liquidity metrics, underpin the analysis available through S&P’s MarketScope Advisor, which ranks almost 200 ETFs that have less than three years of performance history, notes Rosenbluth.
Despite the availability of comparative data, some investors might be reticent to select a new or newish ETF, Rosenbluth’s report notes. Only two equity ETFs that launched in 2011 have a market capitalization greater than $100 million, in contrast to 313 equity funds that launched before this year, according to S&P.
Where is the demand for ETFs coming from? Rosenbluth points to their transparency and relatively low costs, along with many investors’ turn to an indexing approach. “Some investors are tired of trying to beat the market and are comfortable ‘being’ the market,” he said.