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There is more to ETFs than low fees

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In the sharply competitive exchange-traded fund arena, fund providers have been relentlessly driving down fees in a bid to undercut one another on price.

And though experts acknowledge that a cost comparison must be a principal consideration in selecting a fund, it isn’t the only determining factor.

CLS Investments, a third-party money manager focused on ETFs in Omaha, Nebraska, just rolled out a suite of bundled ETF products that aim to pair returns with a client's risk profile, offering exposure to smart-beta and active funds, as well as small positions in more niche offerings.

The firm undertakes what it calls a risk budgeting process that involves both a questionnaire to evaluate a client’s risk tolerance, as well as an evaluation of the risk characteristics of a given ETF, says Grant Engelbart, portfolio manager at CLS Investments.

“We match up those risk profiles and then, ultimately, over long enough periods of time, the return profile as well with the client's goals,” he says. “We try to incorporate both the willingness to take risk but also the ability to take risk.”

Many advisors are also coming to rely increasingly on ETFs as a vehicle for diversifying a client’s portfolio, while avoiding the pitfalls of picking individual stocks, says Dana D’Auria, director of research at Symmetry Partners, a registered investment advisor based in Glastonbury, Connecticut.

“ETFs are going to give you broad-based, well-diversified, low-cost exposure to different asset classes,” she says. “If you're trying to get exposure to an asset class without taking a view within that asset class, ETFs are a great vehicle.”

What's more, if cost is the sole criterion in selecting an ETF, clients can miss out on a number of factors that can give a fund a boost to outperform the overall market.

Engelbart points to distinguishing factors such as value, quality and momentum that get overlooked in an ultra-low-cost fund that is pegged directly to the S&P 500, for example.

“We think if you're paying a little more for that, then you're ultimately still going to be rewarded for that, because those factors have historically outperformed the market,” he says.

D’Auria concurs, saying that when evaluating the features of an ETF, “cost is obviously a big one, but how much it captures the factors is probably going to be as big.”

Of course, advisors are also cautioned to scrutinize how well the fund stays in line with the index that the manager is following.

D’Auria says that in some instances, a fund might be using fair-value pricing, while the index is not.

“You have to take into consideration how the two are being measured against each other,” she says. “In some places, you're going to expect to have some tracking error risks, and you certainly want to review it and make sure it's in line with expectations.”

This story is part of a 30-30 series on navigating the growing world of choices for client portfolios.

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