Give credit to the active investment management powerhouses. Having watched more than a trillion dollars flow out of mutual funds and into exchange traded funds (ETFs), the largest active mutual fund managers had to do something. Several have taken the leap and joined the ETF party. Pimco’s Bill Gross, the eponymous Bond King, is the latest to embrace the ETF structure. Is his new Total Market Return ETF a good idea for investors?
Everybody’s doing it
The Pimco move is big news, one that will be followed by others active managers. According to this report, State Street John Hancock, Eaton Vance, Northern Trust, Goldman Sachs, Janus, T. Rowe Price, Legg Mason, Neuberger Berman, J.P. Morgan Chase, and others have filed to issue actively managed ETFs.
BlackRock and several other active managers already have active ETFs, although Pimco’s new offering is likely to dwarf others in the field, based on the heft of its $250 billion mutual fund version, the world’s largest mutual fund.
But is the Total Return Fund in ETF form a good idea? For Pimco, yes. ETFs are often viewed as more transparent, more efficient and less costly than mutual funds. These qualities, in combination with Gross’s reputation as one of the greatest money managers in history, will surely draw new investors and more profits for Pimco.
For individual investors, I don’t see much benefit. Compared to Pimco’s goliath Total Return mutual fund, the Total Return ETF may look like a better option (with daily reporting of holdings and somewhat lower expense ratio). But I think that’s the wrong comparison.
I believe the relevant comparison is the Pimco ETF versus an index ETF in the same asset class. Actively managed in pursuit of performance, the Pimco ETF is likely to have higher turnover and more taxable events than an index tracking the overall performance of intermediate term bonds.
Secondly, Pimco’s advertised ETF expense ratio of 55 basis points may be lower than the company’s mutual fund expense ratio, but it’s five times what it needs to be. Vanguard’s Total Bond Market ETF (symbol BND) charged 11 basis points last year. And by the way, the passively managed BND crushed the performance of Gross’s mutual fund (read our post).
Icons make mistakes
Bill Gross is clearly a superstar in investing, with a long term track record better than most. But every time he makes an investment decision, it could be wrong. In 2011 he was extremely wrong. He bailed from treasuries, expecting a rise in interest rates that never happened. Vanguard’s BND, seeking only to deliver the market return for the asset class, did just that – almost 8 percent for the year versus 3.74 percent for Gross’s fund.
Wolf in sheep’s clothing
While you will find few ETF supporters more strident than myself, I’m not impressed by this new practice of cloaking actively managed products in the appealing ETF wrapper. Index ETFs were an important development for investors, but active managers who release ETFs are creating a distinction without a difference, features without benefits (for investors anyway).
In my view, an actively managed ETF is far more similar to an actively managed mutual fund – in both management process and performance – than to an index ETF. Don’t be fooled by the man behind the curtain.
More and more, I tend to be in Paul Volcker’s camp on industry innovation. He’s the one who said the greatest financial innovation in modern times is the ATM. I tend to agree.
For our most popular posts, click here.
This article may include forward-looking statements. All statements other than statements of historical fact are forward-looking statements (including words such as “believe,” “estimate,” “anticipate,” “may,” “will,” “should,” and “expect”). Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to be correct. Various factors could cause actual results or performance to differ materially from those discussed in such forward-looking statements.
Nothing in this article is intended to be or should be construed as individualized investment advice. All content is of a general nature. Individual investors should consult their investment adviser, accountant, and/or attorney for specifically tailored advice.
Any references to third-party data or opinions are listed for informational purposes only and have not been verified for accuracy by the Adviser. Adviser does not endorse the statements, services or performance of any third-party vendor without specifically assessing the suitability of a third-party to a client’s or a prospective client’s needs and objectives.
Any securities listed in this article are for illustrative purposes only. These securities may or may not be held in actual client accounts. Specific securities identified and described do not represent all of the securities purchased, sold, or recommended for advisory clients, and the reader should not assume that investments in the securities identified and discussed were or will be profitable.
An investment cannot be made directly in an index.