Rapaport: We evaluate a number of different criteria when performing due diligence on investments. One important attribute is brand name recognition. The broad-based ETFs we use for traditional, low-cost core market exposure are generally from the big index providers—iShares, Vanguard, State Street, Charles Schwab or Fidelity. Some of the firms we use for smart-beta ETFs may include PowerShares, Guggenheim or First Trust.
Schlegel: You mentioned you prefer using active fixed-income managers, but are you looking into bond ETFs at all?
Rapaport: In certain instances we have utilized bond ETFs, and they tend to be traditional passive index exposures. Given the current interest rate environment, we believe active managers may be better positioned to provide attractive risk-adjusted returns.
Schlegel: Do you see any potential negatives from using ETFs in client portfolios?
Rapaport: Given the increasing options available in the ETF universe, some investors may not understand the underlying strategy and potential complexities. This may lead to investor confusion. Earlier, I mentioned market-cap-weighted ETFs and how an investor may think they are invested in a diversified fund while it is actually concentrated in the top few holdings.
There also may be certain areas of the market where active management has proven more beneficial.
We believe education is the key. If an investor receives an accurate explanation and fully understands the investment strategy, objective and rationale for holding that investment, we believe it may lead to better investment outcomes over the long term.