Technology has taken over many jobs while shifting a bit of the work to the consumer. Grocery stores employ self-checkouts, which force us to learn the best way to scan a banana. Car-sharing services allow us to skip a taxi and drive through rush-hour ourselves. This trend is no different in finance, and that's not a bad thing.
While your hot-stock-tip provider may not appreciate the change, diversified low-cost portfolios are booming in popularity. And there are many ways to profit.
Automated financial advice
Having somebody actively manage your portfolio costs money, whether you have a personal financial advisor who takes a percentage of assets or invest in mutual funds yourself and pay their expensive fees. Increasingly, however, people are shunning higher fees in favor of cheaper funds that typically hold a general basket of stocks. As Joe Davis and Andy Clarke of Vanguard report, only 5% of mutual fund and ETF assets in 1995 were in funds that charged an expense ratio of 0.25% or less. In 2012, that number was 25%.
As Davis writes, "We're in the second or third inning of a remarkable shift toward broadly diversified, low-cost portfolios, an idea that has the power to change our lives for the better."
In another study, Vanguard writes, "69% of U.S. large-cap value equity funds underperformed their benchmarks over the ten years ended Dec. 31, 2012." It's a continuing fact that a majority of actively managed funds fail to beat benchmarks, especially when adding in their typically high expenses.
More investors are realizing this, which gives the companies who run these funds a huge opportunity.
A booming industry
With this concentration on avoiding high fees while easily diversifying, the ETF industry has boomed. WisdomTree Financial (WETF +4.50%) has $23 billion in managed assets, up from $1 billion in 2006. And it is only the fifth-largest provider of ETFs. The other top five ETF providers are as follows.
| Company | Assets Under Management (Billions) | P/E | Average ETF Expense Ratio |
|---|---|---|---|
| BlackRock's (BLK +0.00%) iShares | $598.8 | 20 | 0.40% |
| State Street (STT +1.72%) | $332.9 | 16 | 0.36% |
| Vanguard | $280.3 | -- | 0.15% |
| Invesco's (IVZ +1.94%) PowerShares | $67.1 | 22 | 0.56% |
| WisdomTree | $27.3 | 100 | 0.53% |
Larger corporations over $10 billion in market capitalization, such as BlackRock, State Street, and Invesco, are of course less affected by the growth of their ETF business, and their stocks are priced accordingly. Being smaller, WisdomTree can grow much faster, and its relatively expensive stock reflects this.
Even though it's small, WisdomTree is grabbing sizable market share. For the first quarter of the year, Vanguard's inexpensive funds took in 37% of inflows, followed by iShares with 30.5%, WisdomTree with 11%, and PowerShares with 6%. WisdomTree management, having achieved its goal of breaking into the top five providers by assets under management, now has set a goal of $100 billion in assets under management.
Investing in do-it-yourself investing
The Vanguard report argues that we'll continue to see exponential growth in the adoption of low-cost, broadly diversified funds, just as people adopted innovations like air conditioning, the computer, and the Internet. If that's the case, the companies that take in this money will have plenty more assets to help rack up profits, and it will happen quickly.
