Can I clear up one bit of confusion?
ETFs are indeed passively managed investment vehicles. Their portfolios passively follow indexes rather than allocating money into the picks of a fund manager.
But portfolios of ETFs put together by investors aren’t–and indeed can’t be–passively managed. An investor is making a choice to own U.S. equities in an ETF versus an emerging market ETF versus a bond ETF, for example, and the decision on how much to allocated among different passively managed ETfs is also an active decision. Even a decision to own nothing but a Standard & Poor’s 500 ETF is an active investment decision.
Investors forget this distinction at their peril. And that’s why, this week, I’m launching my new Perfect 5 Active Passive ETF portfolio.The portfolio will always own just five passively managed low-cost ETFs, but then I’ll be making recommendations for active decision by you as to what ETFs (and when) and in what allocations will fill those five slots. I’ll fill the first slot in a post later today. This portfolio–with all of its buys and sells and shifts in allocations–will be available to subscribers to my JugglingwithKnives.com and JubakAM.com subscription sites. To give everyone a taste of that this portfolio is about, I’m putting up the first two posts on the portfolio in the free “Post of the Month” slot on JugglingwithKnives.com as tonight as well as on my free site JubakPicks.com. Tomorrow, the rest of the portfolio will be posted on JugglingwithKnives.com and JubakAM only. But I will be offering a special deal in honor of the launch on this portfolio: Two free weeks of access to either JugglingwithKnives.com (normally $79) or JubakAM.com (normally $199) with a 20% discount if you decide to subscribe for a year after your two week free trial expires. The free trial will also get you all the other content on these sites as well as two weeks of my daily end of the day emails of the day’s posts. I’ve posted the landing pages for those offers at the end of this page.
Individual ETFs–Exchange Traded Funds–are (by and large) passive investment vehicles. Unlike a mutual fund or a portfolio run by a stock picking money manager, an ETF is a basket of funds that passively follows an existing or specially created index. For example, if you buy the SPDR S&P 500 ETF (SPY), you get a piece of a portfolio that mirrors the stocks in the Standard & Poor’s 500 index. The managers of this ETF buy and sell to keep the ETF’s portfolio in line with the stocks in the S&P 500, but they don’t buy more Intel (INTC), for example, when they see that stock building momentum in the markets. They keep Intel’s weight in the portfolio in line with its weight in the index (which rises and falls with the fortunes of the stock.)
In the common conversation we call ETFs passive vehicles and distingish them from actively managed vehicles. And ETFs have been a roaring success with individual investors. In 2016, for example, passive ETFs attracted inflows of $428.7 billion while actively managed funds saw outflows of $285.2 billion, according to Morningstar. At the end of June there were $4 trillion invested in global ETFs, up from just $580 billion in 2006.There are now over 7,000 ETF products managed by 313 providers. By 2018, Sanford Bernstein projects, 50% of U.S. equity assets will be in passively managed vehicles.
That’s what low fees will do for an investment product, especially when active managers, with higher fees, have had trouble beating the indexes lately. Why pay 1% or 1.5% or more a year when you can own the SPDR S&P 500 for a 0.07% fee or the iShares Core S&P 500 ETF (IVV) for 0.04%?
No wonder that so many investors have decided to own an S&P 500 Index ETF. According to FactSet, fully one-seventh of the nearly $4.2 trillion in global ETF assets are in funds tracking the S&P 500. (One result is that passive funds now own an average of 17% of each component of the S&P 500, according to Goldman Sachs.)
But here’s where “active” investing comes back into the picture even for an investment portfolio that’s fully invested in passive ETFs.
Which ETFs in what asset categories do you put your money into? And in what proportion?
It makes a difference.
This year you could have put the dollars you allocated to U.S. equities in an S&P 500 ETF such as the IVV and earned a return, as of October 2, of 12.91% for 2017. Or you could have allocated your U.S. dollars to small cap stocks using the iShares Russell 2000 ETF (IVM) and earned a return of 11.32%. Or you could have put your U.S. stock allocation into the PowerShares QQQ Trust ETF (QQQ), which invests in the technology heavy NASDAQ 100 index, and earned a return of 22.87%.
In retrospect the decision is a no brainer, but how about looking forward? Where should your U.S. equity allocation go for the next six months? That’s one of the things I’ll tell you in my Perfect 5 ETF Portfolio. And it’s one place where the active comes into passive investing.
Or how about other developed markets versus the U.S. market? Over the last three months the return on U.S. indexes and EFTs has been 4.33% for the S&P 500, 4.9% for the Russell 2000, and 5.77% for the NASDAQ 100. The SPDR Euro Stock 50 ETF (FEZ) at a 6.91% return, has beaten them all, as the economy of the European Union (and its currency) have climbed faster than their U.S. counterparts.
As you might expect from its name, the Perfect 5 ETF portfolio will make active recommendations for the best pick ETF and the allocations to that pick in five asset categories, which will in themselves not change. The categories are U.S. equities, (Other) Developed Market Equities, Emerging Market Equities, Fixed Income, and Commodities. (The commodities category will allow me to recommend hedges such as gold, when appropriate, and currency plays, when appropriate, during a period when I expect a fair degree of volatility in the U.S. dollar.
That’s the portfolio in a nutshell.
The target audience is active passive investors. The goal of the portfolio is to beat a completely passive, passive approach of putting all your dollars in the U.S. S&P 500.
One last note: It may seem odd that I’ve added this portfolio to my JugglingwithKnives.com and JubakAM.com site where it will sit next to the Volatility Portfolio that I created back in June. This isn’t an oversight on my part but an intentional juxtaposition. In my experience, If you’ve got all your money squared away in low-cost index ETFs, you can devote a few brain cells to an investment or two that goes against the flow and offers the potential for an outsized reward (to go with its higher risk.) That’s the kind of play you’ll find in the Volatility Portfolio. It seems to me that it goes naturally together with the active passive ETF approach in this portfolio. If you take up my free offer or subscribe, you’ll have to a chance to see if that combination works for you.
More on my U.S. allocation for this portfolio in my next post.
If you want to continue following the Perfect 5 ETF Portfolio, you have several choices.
You can go to the free Post of the Month posts on my subscription site JugglingwithKnives.com where you’ll be able to read the last two picks for this portfolio for free on Wednesday and Thursday of this week.
Or you can take up my two week free trial offer to JugglingwithKnives.com and then, if you think what you’ve read is valuable you can subscribe at 20% off (for the first year) to JugglingwithKnives.com. That’s a price of $59 versus the regular $79 price.
Or you can take up my two week free trial offer to JubakAM.com and then, if you think what you’ve read is valuable you can subscribe at 20% off (for the first year) to JubakAm.com. That’s a price of $159 versus the regular $199 price.
You find the links to these two offers below.