The 'In' Crowd
By Ric Edelman
When you invest in ETFs, you're in elite company.
If you want to look hip, put on a cool pair of shades.
But if you really want to be hip — as well as wealthier, younger and better educated — put your money into some exchange-traded funds.
That’s the conclusion of a new study by Cerulli Associates and the Investment Company Institute. Their research shows that the wealthier, younger, hipper and better educated you are, the more likely you have bypassed ordinary retail mutual funds and instead own ETFs.
Indeed, according to the report, the median age of the head of household for mutual fund investors is 50. For ETF investors, it’s 46. The median household income of mutual fund investors is $80,000 vs. $130,000 for ETF investors, and the median net worth of mutual fund investors is $200,000 vs. $300,000 for ETF investors.
ETF investors: 3. Mutual fund investors: 0. Game, set, match.
These findings conform perfectly with the prediction I’ve been making since 2007 — that antiquated retail mutual funds are on their way out. I think they’ll virtually disappear in the next 10 years. Maybe buying mutual funds was once hip, but today it’s as hip as watching Laverne & Shirley on UHF (go ask your parents).
There’s a simple reason why ETFs are increasingly popular: Compared to most mutual funds, they’re dirt cheap. The S&P 500 Stock Index gained only 2.1% last year (on a total-return basis) — meaning it made no sense to own a stock mutual fund that charges a 2.5% management fee. By contrast, stock ETFs typically cost only a tenth as much, or 0.25%. That means ETF investors can make money in a year when fund investors don’t.
But cost is just part of the story. Most ETFs have an investment management style that’s vastly different — and we believe superior — to that of most stock mutual funds. The difference is simple: While stock funds are run by managers who try to pick specific securities that they hope will do better than their peers, ETFs tend to buy almost every security in a given asset class. The result: ETFs enjoy broader diversification and lower volatility.
Last year demonstrates the value of the ETF approach. Although the Dow Jones Industrial Average ended 2011 with a 5.5% gain and the S&P 500 rose 2.1%, the average stock mutual fund lost 6%, according to Lipper Analytical Services. The average stock ETF, though, more closely matched the S&P’s performance.
How could mutual funds lose 6% when the S&P 500 was up 2.1%? The answer’s simple: high administrative fees and poor investment choices by arrogant fund managers who foolishly believe they’re better at picking stocks than they really are.
If ETFs generate higher returns with less risk and lower costs, why do so many people continue to own retail mutual funds? Here are three reasons:
Inertia. Investors are preoccupied with other matters and are simply not taking the time to act.
Fear of change. Many people would rather stick with a bad situation than risk a new situation, even if the new one might be better.
Lack of awareness. Many investors are still unaware that ETFs exist. Often this is because they get their information from media outlets or advisors who have not told them about this new alternative. Why would broadcasters and advisors refrain from discussing ETFs? Well, broadcasters love airing market predictions, and most ETFs don’t help them play that game. And brokers, bankers, insurance agents and other advisors can earn a lot more money by selling other products, including mutual funds, than ETFs. Small wonder that, according to Cerulli, only 3% of brokers, bank-branch reps and insurance agents recommend ETFs for their clients.
We were one of the industry’s earliest adopters of ETFs. But we weren’t the earliest; the first ETF was launched in 1991, but we waited until ETFs proved themselves. By 2005, after 15 years of research, analysis and monitoring, we became comfortable recommending ETFs to our clients. Since then, our confidence has grown even further.
To bring ETFs to our clients, we developed the Edelman Managed Asset Program. More than two years in development, EMAP is now one of the fastestgrowing investment management programs in the nation, with nearly $7 billion in assets under management for 15,000-plus clients.
Industrywide, ETF assets now total more than $1 trillion. As more and more people begin to realize how favorably they compare with antiquated retail mutual funds, this figure will increase dramatically.
To learn more about ETFs, give us a call. We’ll tell you all about their risks, fees and benefits; we’ll explain how our clients use them and how you, too, can be wealthier, younger (?), better educated and — yes — quite hip.