Chuck Self is chief investment officer and chief operating officer at iSectors LLC, an exchange-traded fund (ETF) strategist whose model portfolios are available in 401(k) plans. He admits that ETFs remain a small portion of the overall defined contribution (DC) investing pool, but he is optimistic about the future of the product class among retirement investors—especially those working with specialist advisers.

“The whole idea of getting ETFs into 401(k) plans was purely a conversation until a few recordkeepers actually started to allow ETFs to be choices on their platforms,” he tells PLANADVISER. “It is a relatively recent event that has occurred in just the past few years.”

He says iSectors is closely involved in the ongoing rollout. Currently the company offers a variety of 14 allocation models to advisers and their clients, which Self personally oversees.

“So we’re really an intellectual capital firm,” Self says. “We provide modeling work for financial advisers. We don’t have our own investor clients—we work directly with the advisory community. In essence they outsource the complex portfolio modelling work to us, and we take an active role so their clients don’t have to worry about things like setting their asset allocation or doing the regular rebalancing.”

The company recently announced a partnership with Alta Trust, through which it established a collective investment fund (CIF) series utilizing active asset allocation and low-cost index ETFs. Using the CIFs structure is one way to get around some of the limitations of many recordkeeping platforms used by retirement plans, Self notes, which may not be able to handle ETFs.

“Many of our competitors have done or are doing the same thing,” he says. “Our pitch to the adviser community is to say that, because these ETF models are not really that readily available yet, using ETFs and ETF strategists like us can be a real differentiator. Having a lineup of ETF portfolios is a unique selling proposition to bring to plan sponsors—and one that is durable over time.”

iSectors is not the only one making that assessment. Charles Schwab has made progress introducing ETFs to both retail investors and retirement plan clients. In September 2014, Schwab transitioned the first 401(k) plan to the ETF version of the Schwab Index Advantage platform. That same month, it also added 60 ETFs to Schwab ETF OneSource, which was launched in February 2013 and offers investors and advisers access to commission-free ETFs. As of August 31, 2014, Schwab says its ETF OneSource platform has $31 billion in assets under management, and year-to-date flows into ETFs in the program were $5.9 billion, representing about 45% of the total ETF flows at Schwab.

Self predicts Schwab and others will have slow but steady success boosting use of ETFs among retirement investors. He feels more and more advisers “are starting to believe in the potential of ETFs.”

“Also important is that advisers are increasingly aware that they aren’t going to do the participants any favor by offering a long list of undiversified ETFs without significant guidance on how to build a proper portfolio strategy,” he continues. “It all comes back to the fact that most people just don’t have the ability, the time or the interest to put together portfolios to serve their needs and goals.”

Self says this is true for plans relying on mutual funds, ETFs or any other investment structure. He adds that successful advisers likely have already evaluated the role ETFs could or should play in their business, but with rapid innovation occurring in the ETF space, it’s worth doing regular assessments of what ETFs can do for plan participant clients.  

Self also notes that some retirement specialist advisers continue to question whether ETFs should be used in place of the more firmly established mutual fund structure.

“There is certainly some inertia to overcome, both among the sponsor and adviser communities, which is part of why it is taking a while to boost ETF popularity in this space,” he says. “As you know, the way most 401(k)s are set up, the plan investment committee is made up of people who don’t review investments as their regular daytime job. So the thinking tends to be something like, ‘If people aren’t complaining and they’re not threatening to sue the plan, we better just keep doing what we’ve been doing.’

“It’s a problem in which the incentive to do the right thing—to have the lowest costs possible and to really ensure the plan can drive true retirement readiness—has not been firmly established yet among many of the employers and sponsors that are out there,” Self concludes. “The complaining from participants often doesn’t come until someone reaches retirement age and realizes, hey, I don’t have enough money in the 401(k) to fund a real retirement, what do I do now?”