Should Advisors Use ETF Managed Portfolios?

by: Tom Lydon

Considering the rapid expansion in the number of exchange traded funds available, the sparsely populated ETF managed portfolios space could be the next big thing. With more options available, advisors are beginning to look to these managed accounts as logical choices.

ETF managed portfolios are separately managed accounts with over half their assets allocated in ETF products. About 100 new portfolios have been created over the past three years, with assets rising vaulting 43% to between $40 billion and $100 billion over the 12 months prior to September, 2011, reports Diana Britton for Registered Rep.

Brokerage platforms, like Charles Schwab and TD Ameritrade, have reported a growing RIA assets flowing into these strategies over the past year. Ken Courtney, senior manager of the managed accounts solutions group at TD Ameritrade, notes that RIAs want to expand their portfolios with tactical ETF strategies to generate more alpha. Additionally, Morningstar notes that these portfolios are highly liquid, low-cost and tax-efficient ways to get broad exposure to many asset classes

However, with a relative short 3-year life span, most portfolios remain untested. Investors seeking to test a portfolio's muster, though, may like to know that Morningstar is following 370 portfolios with $27 billion in assets.

"Whenever you think you can have it all, there's going to be abuses in a situation like that, and I think that's what happened with ETF managed portfolios, and that's why Morningstar's monitoring it," Christian Magoon, CEO of Magoon Capital, said in the article.

Still, the critics argue that there is little reliable performance data, advisors may be profiting from low-cost ETFs at the expense of clients and actively managed ETFs defeat the purpose of low-cost, passively managed Indexing tools.

"They (the RIAs) could just go out and buy ETFs for their clients, right?" David Lindenbaum, vice president, managed accounts and alternative investments, Charles Schwab & Co., said. "They're going to have to justify in their minds why they're going to bring this other party in who's going to get paid between 50 and 100 basis points."

James Shelton, CIO of Houston-based wealth management firm Kanaly Trust, states that as with most investments, you need to do your due diligence, including taking a look at fees, the management team and their buy/sell discipline.

Lindenbaum also notes that advisors need their own due diligence to find out if the comparable benchmarks are appropriate for a portfolio's particular strategy.

"It's what the new financial advisor needs in the absence of having a massive research department of people covering everything under the sun," Joshua Brown, advisor at Fusion Analytics, said in the article.

Nevertheless, when it comes down to it, there is no right choice between index or passive. It may be down to an advisor's ideology.

"Anyone who says every dollar should be passively or every dollar should be actively managed is an ideologue," Brown added. "I feel bad for the client whose advisor is so doctrinaire that they won't even consider one or the other."

Max Chen contributed to this article.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.