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Portfolio > Mutual Funds

Morningstar to Tackle Hottest ETF Topics at Conference

By Bernice Napach

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Beginning Tuesday, approximately 600 financial advisors and institutional investors will be gathering in Chicago to attend Morningstar’s sixth annual ETF conference. The event, which runs through midday Thursday, will focus on three key areas of ETF investing — strategy, tactics and managed-portfolio solutions — which will be discussed in more than 20 different sessions.

“We’re looking to have good conversations that rethink conventional wisdom to better navigate the current environment,” said Ben Johnson, Morningstar’s director of Global ETF Research, who was in New York for a Research Roundup conference.

On example: a session early Wednesday morning called “Deactivating Active Share,” presented by Andrea Frazzini, of AQR, which will explore why “the concept of active share has “very minimal usefulness,” said Johnson. The concept is a popular one that advisors and others use to differentiate between those funds that are truly actively managed and those funds that present themselves as such but are in reality “closet” index funds.

It’s also related to one of the most popular debates among advisors: whether to invest in actively managed funds or in passive ETFs or index funds, which will be debated by a panel hosted by Johnson. While active fund assets still outflank ETF assets, the margin between the two is narrowing because money is flowing into passive ETFs and leaving active funds.

Morningstar’s latest report on U.S. asset flows shows that for the 12 months ended August 31 active funds lost a net $133.6 billion in long-term assets to outflows while passive funds gained more than twice that much: $467.5 billion. U.S. equity funds led the exchange: $152.4 billion left active funds while $145 billion flowed into passive funds.

“We are in the middle of a prolonged cyclical uptick in the adoption of index funds,” Johnson said.

It’s no wonder. Actively managed funds have underperformed their passive counterparts, especially over longer time horizons, and more of them have disappeared due to mergers or closing, according to Johnson.  Over the past 10 years through the end of last year, most categories of actively managed funds failed to outperform their passive counterparts and the highest cost funds performed the worst, according to Morningstar.

Only some of the lowest cost funds beat their actively managed counterparts – in the large-cap value, mid-cap value and small-cap value categories as well as in foreign stock large-cap blend and intermediate term bond fund categories.  “Fees matter,” Johnson said. So do timing and investment style, which will be the focus of a session with Jason Hsu, the co-founder and chairman of Research Affiliates. He’ll discuss how timing and the growing popularity of investment styles — such as growth and value — affect performance of individual investors’ portfolios, explaining why, for example, the average value investor underperforms the S&P 500 when the average value funds outperform the index.

The mistakes that individual investors make in their 401(k) funds, rather than market dynamics, will be the focus of a keynote presentation by Charles Ellis, founder of Greenwich Associates and author of “Falling Short: The Coming Retirement Crisis and What to do About It.”

Another hot topic that will be discussed at the Morningstar ETF conference is strategic beta, Morningstar’s term for smart beta. It is the most popular category of new ETFs coming to market. These ETFs are growing more complex with time, posing challenges for investors and advisors to understand how they work and how to incorporate them into portfolios, said Johnson. Another category that is growing in popularity: currency-hedged ETFs. A conference session will focus on whether this is a short-term trend or the beginning of a new era in managing foreign currency exposure.

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