Advisers Report ETF Uptake

Financial advisers across all segments see ETFs as the most innovative investment vehicle of the last two decades, according to a State Street study.

Many advisers (43%) distinguish 401(k) plans as the most significant growth area for exchange-traded funds (ETFs), according to The Impact of Exchange Traded Products on the Financial Advisory Industry, a joint study of State Street Global Adviser and Knowledge@Wharton, the online business journal of The Wharton School of the University of Pennsylvania.

The result was unsurprising given the significant pool of assets available in 401(k) plans ($3 trillion), said Anthony Rochte, senior managing director of State Street Global Advisors. “It’s a little bit of the “if-not-when’ scenario,’ he told “There’s clearly going to be more adoption of ETF funds in 401(k) plans because it is such a significant market.’

The largest obstacle remains “in the piping and plumbing of the 401(k),’ or, in facilitating the different settlement process of ETFs compared with mutual funds, Rochte said (see Hard to Fit). “I think there’s still some innovation that will need to occur before it becomes commonplace,’ he added.

ETFs have amassed nearly $700 billion in assets, with extreme growth in the last few years, the study said. The low-cost structure, tax-efficiency, and transparency of the vehicles have propelled their popularity (see ETFs Continue to Prosper). More than two-thirds of the array of advisers surveyed concurred with the statement that ETFs are the most innovative investment vehicle of the last two decades. Sixty percent report that ETFs have fundamentally changed the way they construct a portfolio.

While a majority of financial advisers (76%) identified themselves as light-to-moderate users, indicating that less than 50% of their portfolios utilize ETFs, only 4% report not using the instruments altogether. Forty-one percent of the total advisers have $5 million or more in assets invested in ETFs.

The strongest appeal of ETFs across the types of advisers was liquidity and low cost. Also scoring high were tax efficiency, intraday trading, and investment style purity. Yet the study displays some differentiation across the different channels of advisers. For instance, the ability to short-sell ETFs is an attractive attribute to asset managers on the list, noted Rochte. “What that tells us is that we can’t lump them all into the category of advisers; different advisers use ETFs for different reasons,’ he added.

Nearly four-in-five advisers (76%) believe the use of ETFs encourages fee-based models, the study says. As the industry is increasingly driven by fees rather than commission, the ETF structure has fit nicely into the picture. Whether ETFs are driving the industry to be more fee-based or are becoming more popular because of the drive away from commission is unknown, but it’s likely a bit of both, Rochte said. “There’s no question that the rapid transformation of adviser business is from commission-based compensation to a fee-based compensation,’ Rochte said. “In some way shape or form ETFs are involved in that event.’

The study also illustrates the adoption of ETFs with broker/dealers. In fact, 98% report using ETFs to some extent, and Rochte expects that to continue. “I think in the next five to 10 years the traditional brokerage firms will probably grow their share pretty significantly,’ he said.

When asked what the main disadvantages are of ETF investing, the choices garnering the most responses were: the “unknown/untested indexes and/or portfolio methodologies” (48%) and an “overwhelming number of choices’ (21%).

The survey was conducted by 840 investment professionals across all segments and experience in March 2008. The full report is available to financial professionals registered at