Suddenly, everyone's talking about exchange-traded funds. Are they right for you?
SUSAN BATES, 32, of Cleveland, has been investing in ETFs for about eight years. She says they have given her the broad exposure and diversification she wanted to achieve with technology and blue-chip stocks, without having to put in hours of research time. Since the market's bust four years ago, she has become an even bigger fan of ETFs. "I get wide exposure and can still get the upward trend of the market," she says.
Van Siler, 54, of Summit, N.J., has used ETFs to round out his portfolio at various times. "I found them to be an efficient way to play different sectors of the market," he says. Instead of figuring out precisely which chipmaker or software outfit to buy -- tough, considering the range of products and business cycles within these industries -- he uses Merrill Lynch's HOLDRs to gain exposure to specific sectors.
Bates and Siler aren't alone. Total ETF assets are still a small fraction of the mutual fund industry's $7.6 trillion under management -- but the trend line is moving decidedly upward. By early 2004 the American Stock Exchange -- the de facto home of ETFs -- listed 138 different ETFs valued at $167 billion. That represented a 58% increase from the end of 2002, and a more than 36,000% increase from the $461 million that changed hands in 1993, when the first ETF, based on the S&P 500, was introduced.
Experts see the heady growth continuing. ETF assets will likely top $500 billion in five years, according to Boston-based Financial Research Corp. Steven Schoenfeld, senior research fellow at Duke University's Global Capital Markets Center and founder and editor-in-chief of IndexUniverse.com, is even more optimistic. In his new book, "Active Index Investing: Maximizing Portfolio Performance and Minimizing Risk Through Global Index Strategies," he predicts ETFs will reach the $1 trillion mark -- and possibly even $2 trillion -- by 2010.
Retail brokerages are seeing brisk -- and rising -- demand for ETFs. "We've been promoting ETFs for years," says Jeff Seely, president and chief executive of ShareBuilder, a Bellevue, Wash.-based brokerage. "And I think the public's awareness of these securities has increased dramatically in each of those years."
Right now, roughly 70% of all ETF assets are held by institutions. But in terms of trading volume, individual investors are keeping up nicely, says Kevin Ireland, vice president of the Amex's ETF group. "The retail side has really exploded." In fact, Barclays Global Investors estimates that 50% of its popular iShares ETFs are held by retail investors. What began as a $2 billion niche offering in 2000 has blossomed into a $68 billion business for Barclays today.