Morningstar CEO Kunal Kapoor stressed that there has never been a better time for great advice during his opening remarks at the Morningstar Investment Conference in Chicago.
But, during a press briefing following the first day of the conference, Kapoor explained that great advice can be done at a reasonable price — regardless whether it’s active or passive management.
According to Kapoor, “the story’s not active versus passive; it’s high cost versus low cost.”
Kapoor addressed the notion of whether high costs makes sense for certain types of active management, to which he said “I don’t believe in high cost.”
“I believe good investment advice, including good active advice, can be delivered at very reasonable costs,” Kapoor told media.
Kapoor said that low fees are a great predictor of future performance in both indexing and active investing.
“And you want to have low fees in either instance,” he added.
Kapoor thinks that what’s happening in the retail asset management industry — the trend towards indexing or low cost — is basically a replay of what happened in the institutional space 30 years ago, where fees came down dramatically.
“I think while the headlines are right with the fact that it’s a dour time for asset management firms, [but] they’re still very profitable,” he said. “This is still a great business to be in. It’s just that we’re going from 40- to 50%-type margins to 20- to 25%-type margins. Guess what? Most industries would kill for that.”
Kapoor stressed that if advisors do a good job with their clients and they do it at a reasonable cost, they can still be “very successful.”
And Kapoor thinks that security selection can be included in this reasonable cost.
“When the security selection costs 150-200 basis points, that’s a problem because you’re eating it all away,” he said. “I think you can be a really good as an active manager and you can be a really great business with very competitive costs. You don’t need to be charging 150-200 basis points to get there.”
This may explain why Kapoor is not so concerned that there is currently a trend toward indexing, or passive investing. That is, as long as investors are doing it properly.
“It’s great that more people are indexing, but … the turnover is incredibly high,” he said. “It suggests a holding period that is not very long. And so maybe the cost of the ETF is low, but your transaction costs are high; you’re defeating the very purpose of having it.”
According to Kapoor, the concern shouldn’t be whether there are too many people indexing; rather, are they doing it correctly?
“It’s this age-old problem of are people doing it in the right way and building portfolios that make sense,” he explained. “The evidence seems to suggest not quite as yet, which is why ETFs are great but I’d say 401(k)s are still greater because you see people seem to stick with that.”
According to Kapoor, if you look at performances of individuals in the last bear market, people in 401(k)s did better than people in passive accounts because most 401(k) plan participants pack it away and keep contributing.
— Check out How an Ex-Customer’s Complaint Shook Up Schwab on ThinkAdvisor.