By Tom Bradley
I’ve talked in the past about the wealth management industry’s pro-cyclical tendencies. I’m referring to marketing campaigns and product launches that encourage investors to ‘Buy high and sell low’. For example, after the stock market has been down significantly, the marketing emphasis shifts to conservative or guaranteed products, just when there’s less risk in the market and return expectations have been increased. After gold/tech/energy has been running for a few years, there’s always a wave of fund offerings that focus on these sectors.
By feeding investors what they want, as opposed to what their portfolios need, investment firms are promoting poor investor behavior, whether they know it or not.
This post was prompted by an article written by Morningstar’s Rudy Luukko in Investment Executive magazine about ETFs (exchange traded funds) being terminated. In August, there were more ETFs terminated than there were new ones created. It’s the first time this has happened. According to Rudy, “The terminations are attributable mainly to the affected ETFs' small size and poor prospects for new inflows, which make them unprofitable for the management firms to run.”
This is an example of how the industry, in this case the ETF manufacturers, encourage their clients to act pro-cyclically. Of the 13 funds being closed by BlackRock, First Asset and BMO, a majority are in parts of the market that have done poorly – energy, mining and emerging markets. The holders of these funds are being forced to take cash back and trigger their losses. As Rudy puts it, “while the ETF companies cut their operating losses, investors are in some instances being forced to have their units redeemed at market lows, incurring steep losses.”
The ETF terminations are a good reminder that investors don’t want industry trends to determine how they allocate capital. The purchase of any security, fund or structured product should be made because it (1) makes good long-term sense and (2) fits with the overall portfolio strategy.
Successful investors have a contrarian streak in them. The wealth management industry most certainly does not.