ETFs and Asset Allocation - Morningstar
[Pages:24]ETFs and Asset Allocation
Michael Rawson, CFA ETF Analyst michael.rawson@
? 2006 Morningstar, Inc. All rights reserved.
Increasing Acceptance of ETFs
"Anticipating that the U.S. Federal Reserve will resume large-scale purchases of U.S. Treasury bonds and confronted with strong domestic political pressure to spur growth and restrain a rising yen, the Japanese central bank launched a bond-buying program. It said it would spend 5 trillion yen ($60 billion) to buy government bonds, corporate IOUs, real-estate investment trust funds and exchangetraded funds--the latter two a departure from past."
From The Wall Street Journal 10/6/2010
? 2006 Morningstar, Inc. All rights reserved.
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Agenda
? Introduction to ETFs ? Overview of ETF Market ? ETFs vs. Mutual Funds ? Advantages and Disadvantages
? Asset Allocation ? Strategic ? Tactical
? Tactical Investing Ideas ? List of ETF Providers with a wide
selection of funds
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ETFs: A Growth Story
? Industry evolving beyond domestic equity ? Democratization of "difficult-to-access" asset classes
Source: Morningstar Direct Fund Flows
? 2006 Morningstar, Inc. All rights reserved.
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iShares leads, but Vanguard is gaining...
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Ten Largest ETFs
Fund
Ticker
Standard & Poor's Depositary Receipts SPDR Gold Trust iShares MSCI Emerging Markets Index Fund Vanguard Emerging Markets Stock Index iShares MSCI EAFE Index iShares S&P 500 Index PowerShares QQQ Trust iShares Barclays TIPS Bond iShares iBoxx $ Invest Grade Corp Bond Vanguard Total Stock Market Index Fund
SPY GLD EEM VWO EFA IVV QQQQ TIP LQD VTI
Total Net Assets (Billion)
78 55 45 36 35 23 22 20 15 15
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? 2006 Morningstar, Inc. All rights reserved.
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Funds with the Largest YTD Flows
Fund
Ticker
Vanguard Emerging Markets Stock Index SPDR Gold Trust PowerShares QQQ Trust iShares MSCI Emerging Markets Index Fund Vanguard Total Bond Market Index Fund
VWO GLD QQQQ EEM BND
Total Net Assets Billion
36 55 22 45 9
YTD Flows
13.3 6.9 2.6 2.5 2.3
Standard & Poor's Depositary Receipts
SPY
78
-8.8
PowerShares DB US Dollar Index Bullish
UUP
1
-2.5
iShares FTSE/Xinhua China 25 Index Fund
FXI
9
-1.5
Financial Select Sector SPDR
XLF
5
-1.5
SPDR Dow Jones Industrial Average ETF
DIA
8
-1.3
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What Are Exchange-Traded Funds?
? In a basic sense, most ETFs are investable indexes ? Low-cost and tax efficient investment vehicles ? Availability of myriad asset classes allows for efficient diversification
previously available only to large institutions ? Mutual Funds that trade like stocks...
? 2006 Morningstar, Inc. All rights reserved.
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What Are Exchange-Traded Funds? ? But...
? Listed on an Exchange like a stock or closed-end fund ? Traded Intraday ? Allow for stock-like strategies such as shorting and margin
investing.
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How A Mutual Fund Works
? 2006 Morningstar, Inc. All rights reserved.
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How an ETF differs from a Mutual or Closed-End Fund ETF Creation/Redemption ETF Provider
Securities
(In-kind transfer)
ETF Shares
Primary Market Secondary Market
Authorized Participant
Buyer
ETF Shares
Stock Exchange
Seller
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Advantages of ETFs ? Tax Advantage ? Cost ? Diversification ? Modularity
? Liquidity ? Immediate market execution ? Access to new investments ? Transparency
? 2006 Morningstar, Inc. All rights reserved.
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Potential Drawbacks of ETFs ? Transaction fees (typically smallest component of cost) ? Total Cost Analysis is Difficult ? How Much do AP's Make? ? Limitations within tax protected accounts (401K) ? In flat or down market, mutual funds perform well on tax basis
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Passive, Long-Term Investing: Lowest Cost Wins
Avg. Expense Ratio
1.4
1.2
1
0.8 ETFs
0.6
0.55
0.4
0.2
0
OE Index Funds 0.81
All OE MFs, 1.23
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? 2006 Morningstar, Inc. All rights reserved.
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Proliferation of Asset Classes
? In the beginning, ETFs only offered broad index and equity sector exposure
? Now, ETFs offer access to nearly every asset category imaginable ? Fixed Income ? Fundamental Indexes ? Commodities ? Currencies ? Target Date Strategies ? Leveraged Equity ? Hedge Fund Strategies ? Niche Sector Slicing
Broad Asset Class U.S. Stock International Stock Balanced Taxable Bond Municipal Bond Alternative Commodities
Total
# of ETFs 462 194 27 78 29 141 77 1,008
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Takeaways: ETFs versus mutual funds ? Execution more complicated than with a mutual fund
? Advantages can justify the effort and complexity
? Know what you own! Doing your homework means more than just reading the name of the ETF.
? 2006 Morningstar, Inc. All rights reserved.
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