Show Transcript
There are thousands of ETFs available on financial markets. In Canada alone, the number approaches 1,000. With so many ETFs abound, how do investors decide what’s right for their investment goals? Kim Parlee speaks with Trevor Cummings, ETF specialist from TD Asset Management.
Print Transcript
- Trevor, we all know that the ETF industry has ballooned over the years. There's thousands upon thousands of ETFs. You've got a chart that shows the evolution of the ETF. Maybe you could take us through it?
- Sure thing, Kim. You know, there's probably three or four phases in the evolution of ETFs. And maybe it's important to start with the fact that ETFs are merely 30 years old. The very first ETF was created here in Canada in 1990, and for a long time all that was available was passive, broad-based exposures-- an ETF for the S&P 500, one for the TSX Composite, things like this.
And while there's a weight of evidence that suggests passive investing is an appropriate way to go for some investors, I would say that the fly in the ointment, really, is that passive investing gives you an upside/downside capture of 100/100. You're going to get 100% of the upside, less the very small fee. You will get 100% of the downside. And so from a behavioral finance standpoint, passive investing can sometimes be very trying, like we've seen in the last couple of quarters.
The second phase of ETFs was narrow beta. You know, don't give me the whole pie. Just give me a slice, whether that's different sectors of the market, different countries, different pieces of the bond market, different durations or levels of credit quality, things like this.
Third phase in the evolution of ETFs was the rise of quant strategies, factor ETFs. Think of rules-based ETFs, a set of investment rules that tries to enhance outcomes, whether that's better returns than the market, lower risk than the market, or maybe both.
And then the fourth phase in the evolution of ETFs so far is active exchange-traded funds, a fundamental investment process that could have been launched as a separate account, could have been offered as a mutual fund, but ultimately gets wrapped in an ETF vehicle on the exchange.
And what's interesting is about 80% of the ETF assets in Canada are still passive, but the interest and the attention generally is falling on the active or the nonpassive side of the ledger. And while that's about 20% of the ETF assets in Canada, our adoption rate of active ETFs is about 10 times higher than any other country in the world right now.
- Maybe you could do a bit of myth busting here in terms of where the growth has come from for ETFs.
- Sure, yeah. I would say that what a lot of people suspect is that ETF growth is coming at the expense of mutual funds, and that's not quite accurate. Mutual funds are really valuable tools for many different types of Canadian investors, and mutual funds continue to grow. What we're actually seeing in the ETF space is fewer investors are buying individual stocks and individual bonds.
Now, if you had a view towards Canadian financials, for example, and you wanted to put some of that exposure in your portfolio, do you want an individual insurance company? Or do you want to buy the category? This type of thing. Will you be rewarded for security-specific risk, or is it making the macro or the asset-allocation call really appropriate for your account or your investment portfolio?
You see that even more on the bond side. Do you want to be struggling with limited inventory or calling a bond desk trying to haggle over a price, or do you just want to simply get the exposure to that piece of the bond market that you need? ETFs make it very, very easy to express a view, and that's where we're seeing the growth as opposed to individual securities.
- Why do we need more, though? I mean, you talk about growth, and we know that I said there's thousands upon thousands out there. So why more?
- Sure. I mean, any day now in Canada we're going to crack 1,000 ETFs to choose from. I'd humbly submit that's probably a few too many. It's a few more than we need.
But again, we can go back to those four phases, right? If you think about passive broad exposures, we don't need seven versions of the S&P 500 ETF in Canada, right? That corner has been painted. And if you think about passive or indexing, most of the indexes are already available at this point.
Now having said that, the innovation is really in the quant and the fundamental active space. And this is where an asset-management shop like our own can take our processes that we've had many, many years doing in other wrappers and then simply port that over to the exchange-traded-fund vehicle.
And that's, I think, where there's no clear-cut winner. Those that are able to innovate and add value will ultimately gather assets. Dollars are votes in this business, and we're seeing our own assets grow very quickly as a result.
- You've got a couple examples here. I know we've talked about them on the show before, some of these fundamental active ETFs. The first one is TGED.
- Yeah, so TGED starts with sort of a high-conviction, fairly tight list of global equities. These are businesses that are operationally excellent. They're leaders in their field. They're compounders of free cash flow.
But then we do two things on top of that. We will write calls against the portfolio in an effort to generate additional yield, but we will also write puts against companies on our watch list, as well. So two big differences to what we're doing versus, say, some of the competitors in the space is that we are active and we are also writing put options, all in an effort to generate 1% to 1 and 1/2% of additional income.
This is a total-return vehicle, so we want to deliver reasonable capital gains and some yield as well. But ultimately this is something that we've been doing in a number of our active solutions elsewhere, and now we're starting to do it in a pair of ETFs, as well.
- Trevor, I've only got about 30 seconds, but I do want to touch on TEC. We've talked about this one, a pure play in the tech space. But I also want to talk a bit about, if we could, what's happening in the fixed-income space.
- Sure. So sometimes active management comes from creating an index, and this is what we've done with TEC. We took all of the traditional technology stocks, like chip companies and software companies, added in the FAANGs, and then we added in some of that cutting-edge technology that's particularly timely or relevant to where we are today.
Think about this working from home environment and video conferencing like we're doing. Think about digital leisure, whether that's video games or esports, things like that. Think about storage, whether that's in the cloud or physical data storage. And think about e-commerce, Shopify and things like this. We've taken all those technology-like securities and put them into a single ETF, and we manage that index in partnership with Solactive.
On the fixed-income side, we're doing active management, but it's a different kind of active management than you might suppose. So on our shorter-duration ETFs, we're adding in some high-yield exposure in order to generate additional yield, but we're very, very careful and selective in choosing which bonds we're going to put into that portfolio.
TPAY, T-P-A-Y, is sort of our fund of funds where we're actively managing the asset allocation from top down, and then again, bottom up. We're still using that credit research that we're so good at to be careful in choosing the bonds that we're putting into the portfolio, as well.
- Trevor, thank you.
- Thanks very much, Kim.
[MUSIC PLAYING]
- Sure thing, Kim. You know, there's probably three or four phases in the evolution of ETFs. And maybe it's important to start with the fact that ETFs are merely 30 years old. The very first ETF was created here in Canada in 1990, and for a long time all that was available was passive, broad-based exposures-- an ETF for the S&P 500, one for the TSX Composite, things like this.
And while there's a weight of evidence that suggests passive investing is an appropriate way to go for some investors, I would say that the fly in the ointment, really, is that passive investing gives you an upside/downside capture of 100/100. You're going to get 100% of the upside, less the very small fee. You will get 100% of the downside. And so from a behavioral finance standpoint, passive investing can sometimes be very trying, like we've seen in the last couple of quarters.
The second phase of ETFs was narrow beta. You know, don't give me the whole pie. Just give me a slice, whether that's different sectors of the market, different countries, different pieces of the bond market, different durations or levels of credit quality, things like this.
Third phase in the evolution of ETFs was the rise of quant strategies, factor ETFs. Think of rules-based ETFs, a set of investment rules that tries to enhance outcomes, whether that's better returns than the market, lower risk than the market, or maybe both.
And then the fourth phase in the evolution of ETFs so far is active exchange-traded funds, a fundamental investment process that could have been launched as a separate account, could have been offered as a mutual fund, but ultimately gets wrapped in an ETF vehicle on the exchange.
And what's interesting is about 80% of the ETF assets in Canada are still passive, but the interest and the attention generally is falling on the active or the nonpassive side of the ledger. And while that's about 20% of the ETF assets in Canada, our adoption rate of active ETFs is about 10 times higher than any other country in the world right now.
- Maybe you could do a bit of myth busting here in terms of where the growth has come from for ETFs.
- Sure, yeah. I would say that what a lot of people suspect is that ETF growth is coming at the expense of mutual funds, and that's not quite accurate. Mutual funds are really valuable tools for many different types of Canadian investors, and mutual funds continue to grow. What we're actually seeing in the ETF space is fewer investors are buying individual stocks and individual bonds.
Now, if you had a view towards Canadian financials, for example, and you wanted to put some of that exposure in your portfolio, do you want an individual insurance company? Or do you want to buy the category? This type of thing. Will you be rewarded for security-specific risk, or is it making the macro or the asset-allocation call really appropriate for your account or your investment portfolio?
You see that even more on the bond side. Do you want to be struggling with limited inventory or calling a bond desk trying to haggle over a price, or do you just want to simply get the exposure to that piece of the bond market that you need? ETFs make it very, very easy to express a view, and that's where we're seeing the growth as opposed to individual securities.
- Why do we need more, though? I mean, you talk about growth, and we know that I said there's thousands upon thousands out there. So why more?
- Sure. I mean, any day now in Canada we're going to crack 1,000 ETFs to choose from. I'd humbly submit that's probably a few too many. It's a few more than we need.
But again, we can go back to those four phases, right? If you think about passive broad exposures, we don't need seven versions of the S&P 500 ETF in Canada, right? That corner has been painted. And if you think about passive or indexing, most of the indexes are already available at this point.
Now having said that, the innovation is really in the quant and the fundamental active space. And this is where an asset-management shop like our own can take our processes that we've had many, many years doing in other wrappers and then simply port that over to the exchange-traded-fund vehicle.
And that's, I think, where there's no clear-cut winner. Those that are able to innovate and add value will ultimately gather assets. Dollars are votes in this business, and we're seeing our own assets grow very quickly as a result.
- You've got a couple examples here. I know we've talked about them on the show before, some of these fundamental active ETFs. The first one is TGED.
- Yeah, so TGED starts with sort of a high-conviction, fairly tight list of global equities. These are businesses that are operationally excellent. They're leaders in their field. They're compounders of free cash flow.
But then we do two things on top of that. We will write calls against the portfolio in an effort to generate additional yield, but we will also write puts against companies on our watch list, as well. So two big differences to what we're doing versus, say, some of the competitors in the space is that we are active and we are also writing put options, all in an effort to generate 1% to 1 and 1/2% of additional income.
This is a total-return vehicle, so we want to deliver reasonable capital gains and some yield as well. But ultimately this is something that we've been doing in a number of our active solutions elsewhere, and now we're starting to do it in a pair of ETFs, as well.
- Trevor, I've only got about 30 seconds, but I do want to touch on TEC. We've talked about this one, a pure play in the tech space. But I also want to talk a bit about, if we could, what's happening in the fixed-income space.
- Sure. So sometimes active management comes from creating an index, and this is what we've done with TEC. We took all of the traditional technology stocks, like chip companies and software companies, added in the FAANGs, and then we added in some of that cutting-edge technology that's particularly timely or relevant to where we are today.
Think about this working from home environment and video conferencing like we're doing. Think about digital leisure, whether that's video games or esports, things like that. Think about storage, whether that's in the cloud or physical data storage. And think about e-commerce, Shopify and things like this. We've taken all those technology-like securities and put them into a single ETF, and we manage that index in partnership with Solactive.
On the fixed-income side, we're doing active management, but it's a different kind of active management than you might suppose. So on our shorter-duration ETFs, we're adding in some high-yield exposure in order to generate additional yield, but we're very, very careful and selective in choosing which bonds we're going to put into that portfolio.
TPAY, T-P-A-Y, is sort of our fund of funds where we're actively managing the asset allocation from top down, and then again, bottom up. We're still using that credit research that we're so good at to be careful in choosing the bonds that we're putting into the portfolio, as well.
- Trevor, thank you.
- Thanks very much, Kim.
[MUSIC PLAYING]
