Advisors are increasing their use of ETFs as the foundations of their client portfolios. The result is simpler, more efficient and more inexpensive overall investment strategies, according to recent research.

According to “At The Core: Advisor Views On Investment Trends,” a study released Wednesday by Charles Schwab at the Schwab IMPACT 2018 conference in Washington, D.C., respondents in an August survey of 381 advisors believe that the majority of client holdings, 62 percent on average, should be allocated to core investments. Schwab defines core investments as large-, mid-, and small-cap U.S. equities, international equities, corporate bonds and Treasurys.

Nearly two-fifths of advisors surveyed, 38 percent, believed the core of a portfolio should comprise 70 percent to 100 percent of a client’s holdings.

Omar Aguilar, Schwab’s senior vice president and CIO for equities and multi-asset strategies, said that this was a surprisingly high response given the recent bull market.

“A bull market cycle will by definition try to make more room for non-core investments,” said Aguilar. “Investors will say ‘I have a little more money, I can start playing around,’ and they will try to outsmart  themselves. At times of risk, they will go back to the core.”

The product structure most commonly found at the core of client portfolios is now the ETF, comprising 29 percent of the core allocations as described by the survey’s respondents, followed by individual stocks, comprising 25 percent of core holdings, mutual funds, 24 percent, and individual bonds, 18 percent.

Moving forward, 69 percent of respondents expected to increase allocations to ETFs within the core of client portfolios over the next five years, significantly higher than the proportion expecting to increase their use of mutual funds, 53 percent; stocks, 52 percent; and bonds, 46 percent.

“I think ETFs are here to stay, they are the greatest financial invention in our lifetime,” said Anthony Davidow, Schwab’s vice president of smart beta and senior research strategist at the Schwab Center for Financial Research. “They’re helping to democratize investing and they have benefits we sometimes gloss over – you couldn’t really effectively buy 500 stocks with most other solutions.”

Over half of the advisors in the survey, 52 percent, said that ETFs were now the primary investment type within their client portfolios, and 64 percent said that ETFs would be the primary investment product they use in the future. In fact, large portions of advisors are now using ETF- or mutual fund-only portfolios – approximately half of the respondents already use all-ETF or –mutual fund portfolios for their clients, and more than a quarter intend to move clients to ETF- or mutual fund-only portfolios within the next five years.

Younger advisors and female advisors were more likely than their counterparts among the respondents to use all-ETF or all-mutual fund portfolios, according to Schwab. “If you’re building portfolios, your  value is now how do I allocate assets versus how do I find assets,” said Davidow. “I think that will continue and persist over time.”

A majority of the respondents, 70 percent, said it was very important for them to be able to trade ETFs on behalf of their clients without commissions or fees.

Most of the respondents believe that a client’s net worth should dictate how much of their portfolio is allocated to core holdings, but survey participants were split over whether lower-asset clients should have a higher proportion of core holdings or if high-net-worth and ultra-high-net-worth clients should have more of their assets in a portfolio’s core.

Active strategies still have a slight edge over their passive counterparts, accounting for 51 percent of the core holdings reported by the survey participants.

Yet when Schwab asked about what kind of funds advisors were using throughout an entire portfolio, 60 percent of advisors responded that they were using smart beta products. The most commonly used factors, by proportion of respondents using them, were growth, quality and value. The least commonly used smart beta strategies were momentum, fixed income factors and  equal-weighting.

When asked about which factors they use to select funds for a client portfolio, the most influential consideration is total cost, meaning the combination of commissions, expense ratios and bid-ask spread. The ability of a product to track an index, reputation of the fund provider and exposure to a particular part of the market were also listed as important considerations.

“Price matters, and price has effects across the history of an investment portfolio,” said Jonathan de St. Paer, president of Charles Schwab Investment Management. “What matters if price is off the table? They’re looking at track record, performance, tracking error and spread.”

Market, economic and policy events may change how advisors think about the cores of client portfolios moving forward, with more than half of the respondents reporting that they would allocate more to a portfolio’s core due to tax reform and the Federal Reserve’s policy of interest rate increases.

Finally, Schwab also asked about behavioral finance issues and the biases respondents most commonly saw reflected in client behaviors. The most commonly encountered behavioral bias was availability bias, cited by 76 percent of respondents. Availability bias involves using the most available information to make decisions without doing any analysis.

Confirmation bias was cited by 75 percent of the respondents. Confirmation bias refers to seeking information that supports an investment decision that was already made while ignoring negative information.

Loss aversion, the emotional fear of assets losing value that can prevent an investor from embracing opportunities, was cited by 72 percent of the survey participants as a behavioral bias present in their clients.

“If we asked this question today versus three months ago, I would say loss aversion would be at the top,” said Aguilar. “Most people are worried about why the market is down 10 percent, but  they forget that the market is up close to 400 percent since 2009. These are all very typical behavioral traits and cognitive biases.”

The study was conducted online among a sample of 381 independent advisors with at least $50 million in AUM between Aug.14 and Aug. 31, 2018.