ETF Vehicles Not Just Meant for Equities

Exchange-traded funds remain a marginal part of the DC retirement plan market, but recent product evolution on the fixed-income side could change that.

A new study conducted by Cerulli Associates, in partnership with BlackRock, examines the emerging ways financial advisers are incorporating exchange-traded funds (ETFs) into client portfolios.

One clear trend to emerge from the research effort is the enthusiasm among many advisers for greater adoption of ETFs, specifically bond ETFs.

“Since their introduction in 2002, bond ETFs have changed the way investors can access fixed-income markets,” the firms explain. “On an exchange, [there is greater] clarity of pricing and observable liquidity.”

According to Cerulli and BlackRock, the growth of bond ETFs has “charted a different course than equity ETFs.” While bond ETFs represent approximately 17% of all U.S.-listed ETFs, they represent less than 1% of assets in the U.S. bond market. “Advisers’ use of [equity] ETFs has been supported by broader secular trends of fee awareness, regulation, and the maturation of advisory businesses,” the research suggests.

Data from Strategic Insight (SI) tells a similar story. According to SI’s figures, 2016 saw continued positive net flows into exchange-traded funds (ETFs), as assets reached $2.5 trillion at year end. With net inflows of $269 billion, 2016 surpassed 2014’s previous high of $229 billion and marked the third consecutive year with inflows north of $200 billion. The majority of these inflows came during the last two quarters, with $202 billion (75%) of flows occurring during that time.

Accounting for 16% of ETF assets at the beginning of 2016, fixed-income ETFs garnered a proportionally high percentage of flows for the year, bringing in 31% of net new flows, SI reports. The $83 billion of inflows for the year represented the most productive single year for fixed-income ETFs thus far. Only in 2009 and 2011 did fixed-income funds bring in a greater share of total net flows. Intermediate-term bond and corporate bond were the top two selling fixed-income categories for the period.

Adding some context to these numbers, Jennifer Muzerall, associate director at Cerulli Associates, observes the use of bond ETFs is “broad, but not deep.” Overall, 87% of advisers report having used a bond ETF, and yet assets in these funds still significantly lag equity ETFs.

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This trend could change, however, with half of advisers surveyed by Cerulli/BlackRock planning to increase their use of bond ETFs in the next three years. One opportunity in the retirement marketplace in particular could be to use highly liquid and transparent bond ETFs to craft more sophisticated bond ladders that can closely match clients’ investment horizon and risk tolerance.

Cerulli and BlackRock conclude that advisers are “gradually recognizing that bond ETFs offer many of the same benefits afforded by equity ETFs, such as low cost, tax efficiency, and transparency.”

“Once advisers begin using bond ETFs, they recognize that bond ETFs can offer additional benefits that aid in constructing better bond portfolios, such as scalability, ease of exposure, and diversification,” argues Muzerall. Roughly one-third of advisers say that the scalability of ETFs relative to individual bonds is a major reason why they began using bond ETFs, for example.  

Data from Cerulli and BlackRock also shows bond ETF use generally “starts with broad-based core holdings,” but over time sophisticated users of bond ETF products may shift to more specialized investment objectives, such as managing sector exposure, duration, maturities, and credit risk according to unique client needs.  

“Bond ETFs are largely used as a core holding today, but sophisticated advisers are using the vehicle to tilt and diversify client bond portfolios,” Muzerall adds. “More sophisticated users of bond ETFs have already positioned client portfolios in a way that most advisers are only considering.”

The full white paper, “Bond ETFs: Financial Advisors Drive Use with Specialized Applications,” is available on