WisdomTree's Massive ETF Opportunity

Exchange-traded funds, or ETFs, are relatively new to the investment landscape. And despite some controversy, investors clearly approve. ETF assets are growing much faster than mutual funds assets, and there's no evidence of a slowdown in ETF asset-gathering. This has created a huge market opportunity for WisdomTree Investments (NASDAQ: WETF  ) , a small, independent sponsor of ETFs.

A heated debate: Mutual funds vs. ETFs
At the most basic level, mutual funds and ETFs are very similar -- both offer investors opportunity to invest in various bundles of securities. But there are a few subtle differences that are hotly debated among investment experts. Mutual funds have been around much longer (since the 1920s in the U.S.) while ETFs are relatively new (the first ETF began trading in 1993). Mutual funds claim a larger share of investor assets, but ETF assets are growing much faster.

Traditionalists like Jack Bogle, founder of the Vanguard Group and all-around Motley Fool hero, and William Bernstein, the asset-allocating neuroscientist and author, prefer mutual funds. Other experts prefer ETFs for lower costs, tax advantages, and intraday trading. Personally, I don't have an overarching opinion on this debate. But clearly, institutions, advisers, and individual investors have voted with their wallets and embraced ETFs.

Mega-trend: ETF growth
Mutual funds, as a category, are much bigger than ETFs with more than $13 trillion in assets under management in the U.S. as of the end of 2012. The same figure for ETFs is much smaller, only $1.4 trillion. However, ETFs are growing much faster. Over the past 10 years, ETF assets are up more than 1,500% (or 32% per year). Over the same period, mutual funds only increased 87% (or 6% per year).

Clearly, investor preferences (and assets) are shifting away from mutual funds and toward ETFs. This has been going on for decades, and it's unlikely to change anytime soon. Mutual funds won't be totally replaced by ETFs -- there's room for both. But based on trends in historical data and consumer behavior, ETFs are positioned to take an increasing share of global investable assets, largely at the expense of mutual funds. That represents a huge opportunity in ETFs. At present, there is roughly $26 trillion invested in mutual funds, which is 14 times more than the global assets in ETFs.

So, even if investors only transfer a fraction of assets from mutual funds to ETFs, the effect could be huge. Transferring only 20% of mutual fund assets to ETFs would quadruple ETF assets. In other words, the market opportunity for ETF sponsors is huge.

WisdomTree Investments
The largest ETF sponsors are BlackRock (NYSE: BLK  ) , State Street (NYSE: STT  ) , and Vanguard (not publicly traded, owned by customers). Together these three companies control about 70%of global ETF assets. BlackRock and State Street should benefit from growing ETF assets, but both are huge, diversified asset managers. My favorite company in the industry is WisdomTree Investments (NASDAQ: WETF  ) . Unlike BlackRock and State Street, it is focused solely on ETFs, and it's still a small, early stage company.

WisdomTree launched its first ETF in 2006. It's focused on fundamentally weighted ETFs. Instead of weighting its holdings by market value, it weights them based on businesses fundamentals such as earnings or dividends.

This is a relatively new approach to passive investing. In theory, it should generate better returns over time by tilting holdings toward cheaper stocks. Thus far, the majority of its ETFs have outperformed cap-weighted benchmarks while still charging a modest fee of about 0.51% of assets.

With a good record, reasonable fees, and a good sales force, WisdomTree has been raking in assets, revenue, and profits. Over the last year, assets under management are up 87%, revenue 83%, and profits 230%. Yet it's still a relatively small company ($33 billion in assets under management) relative to the trillion-dollar opportunity in ETFs. This leads me to believe that it could grow assets under management for many years to come.

Foolish takeaway
The growth of ETFs is a major trend, and investors should be paying attention. As an innovative, early stage company benefiting from a massive market trend, WisdomTree is worth some attention from investors looking for the next 10-bagger stock. Just make sure you have a large tolerance for risk and lots of patience.


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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 26, 2013, at 7:36 PM, Keithx13 wrote:

    I joined SA a couple months ago, and this is one of the winners I've picked up. I really should do some research on the product (like I've done at Chipotle) and see if any of the ETFs fit my portfolio. How about a small cap dividend growth ETF?

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12/19/2014 4:00 PM
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