Unlike Wagner, Kazanchy sees the fundamental index allocation as a more permanent fixture in the event market conditions change. At the same time, he continues to employ market cap weighting for allocations to areas such as U.S. micro-caps and emerging markets because he hasn't found fundamentally weighted ETFs or mutual funds with sufficiently competitive expenses.
Despite winning converts, assets in alternative index ETFs and mutual funds remain miniscule compared to those based on market-cap-weighted indexes. And many advisors maintain a fierce loyalty that alternative index sponsors are finding tough to crack.
"Traditional cap-weighted index funds have a long and proud history of treating investors well, which the newfangled index funds do not," says Russell Wild, a financial advisor in Allentown, Pa., and author of Exchange-Traded Funds for Dummies. "In addition, they tend to come with significantly lower management fees, and are potentially more tax efficient due to lower turnover. And lately, as a bonus, they've become largely commission-free to trade at Vanguard and Fidelity."
If Wild wants greater exposure to mid-cap and small caps, he says, he can easily tilt portfolios toward those asset classes without shifting to an equal-weighted index fund. And if he wants to emphasize value or growth, he can do it with a mix of market-cap-weighted funds rather than move to a fundamental index ETF that adheres to those biases.
There is some debate about whether it makes sense to mix different indexing methodologies within the same asset class. Matt Hougan of IndexUniverse, like others, believes that with the relatively high correlations between alternative indexes and their cap-weighted counterparts, taking such an approach provides little diversification benefit.
Portfolio manager Otis Carter of Wells Fargo Advisors in Evansville, Ind., disagrees. He says that the behavior of the dividend-focused WisdomTree ETFs differs enough from their equivalent market-cap-weighted counterparts to "behave like a separate asset class." In their middle-ground growth and income model, for example, the firm blends the two indexing strategies in roughly equal proportion over several asset classes.
"The industry tends to look at ETFs as a product," says Carter. "We consider them as an asset class proxy."