Pensions and the bespoke ETF trend

Business is all about individual preference these days. Same goes for investments.

February 19, 2014

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1285563_measuring_tape_detail_2How much do you enjoy that no-foam-extra-hot-double-shot latte made exactly your way at Starbucks? It seems as if business is all about individual preference these days. So why not do the same thing in the investment space?

Funnily enough, it’s already happening—and in the place you’d least expect it. Often described as the great democratizer of financial markets (cheap and open to one and all), exchange-traded funds (ETFs) are getting into the bespoke business.

This made it onto my top trends to watch for in 2014—and for good reason. More and more investors have been turning to ETF providers for products specifically designed to meet their needs. And they’re paying good money for it.

The US$31-billion Arizona State Retirement System is perhaps the biggest example of this kind of custom ETF approach. Last year, the fund made news by becoming the first pension plan to seed three new ETFs to the tune of US$100 million each.

The factor-based products were designed by pension staff in close partnership with iShares in order to address a specific risk-based challenge faced by the fund. They’re now widely available and come with a lowly expense ratio of just 0.15%.

According to Barron’s, the custom ETF trend could be around longer for a very specific reason: seed capital is getting really hard to find. Citing Credit Suisse’s Victor Lin back in January, the article notes that banks have become far more tight-fisted when it comes to committing cash due to new constraints on their balance sheets.

All this means ETF providers need to consider new places to go looking for seed money. That will lead to more bespoke products in the ETF space and, for investors, this could lead to a couple of things:

  1. more access to ideas and designs generated by some of the most sophisticated investors in the marketplace; and
  2. as Barron’s points out, a new requirement on the part of the investor to make sure those custom products are also suitable for their own needs—not just the unique needs of the investor who co-created them.

Personally, I like the idea of access to new ideas. It takes the democratization of investment to a new level, and it shakes up the ETF landscape in a new and different way. So team up, I say! Let’s bring the best ideas to the rest of us.

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