The title of this blog should be “Worth paying attention to,” as that is exactly what our contributor suggests as the end of each section. Today, our director of investment solutions, J. Womack walks us through three interesting developments in the product side of the business. While some of the ideas are starting to become viable investment vehicles, they are probably more for early adopters and will need more testing before they become more mainstream.  

Our 2019 and 2020 papers "Advisory Firms in 2030," looked at the planning profession in 2030 and found that most advisors weren’t ready for the changes in consumer preferences. It is incumbent on all of us to prepare for the future of the business and understanding some of the future products makes sense too. For now, let’s all picture J. in his t-shirt, jeans and tennis shoes (or sneakers for those of you on the east coast) as he rolls out three ideas that are “worth paying attention to…”

--  JDA

I’m always fascinated by the fanfare that surrounds technology releases in consumer electronics. A charismatic CEO or product manager will stand on a stage in jeans, a t-shirt and tennis shoes. There is usually a sleek microphone tightly outlining the contour of their face. There will be some opening lines about the problems that this new technology solves and its advanced features, a prolonged pause, and then, voila! The world will see, for the very first time, this new $1,000 gadget. Crowds of people will subsequently rush stores and potentially wait hours in line for the privilege of spending their hard-earned dollars and the satisfaction of being an early adopter. 

Having spent the last decade of my career in financial services, I’ve noticed there isn’t the same fanfare around new developments in this industry — and yet, in many ways, new “technology” developments in the domain of financial products can have far-reaching impacts on the financial well-being of a substantial part of the investing public. 

Over the past year, there have been some interesting developments that could have that kind of impact, and I find that exciting. As someone who spends every day seeking to help financial advisors to meet their clients’ financial goals, I’ve picked out three developments that are worth paying attention to:

  1. Non-Transparent and Semi-Transparent Exchange Traded Funds: When I say “exchange traded fund {“ETF”},” your immediate response is probably “passive.” Since their initial launch, the ETF vehicle has been inextricably linked with passive, low-cost investing. Why? The answer is simple: Regulation. The firms that manage ETFs were required to provide daily transparency into the underlying holdings of the funds. As a result, they were not a vehicle of choice for active managers. Because index providers price their indices daily, and because they license underlying index holdings information to asset managers, there was a natural growth in the number of ETFs where the goal was to make the indices in the marketplace “investable.” Flash forward and, at the end of 2019, there were approximately 6,970 ETFs globally*. 
    • In early 2019, the Securities and Exchange Commission (“SEC”) approved the first of several ETF structures that allow for some degree of non-transparency. As a result, ETFs are an option for active managers. This is important because they are a viable alternative to the traditional mutual fund structure. More importantly, for clients investing in actively managed products in non-tax favored accounts, these fund structures can be more tax efficient. The developments in this area from a provider and product perspective are worth paying attention to.
  2. Defined Outcome Exchange Traded Funds: Speaking of ETFs, while the range of available strategies has expanded well past plain vanilla to include inverse, levered, systematic and other types of strategies, one recent innovation is in funds that offer defined outcomes. These funds embed hedging and other dynamic trading strategies with core passive exposure to provide a structured payoff. For example, instead of an investor making a passive investment in an index, they can access a collared investment in an index where they may give up some of the upside in exchange for potential buffering against market losses. Fundamentally, this concept is not new. Its roots are in investment strategies popularized during the 1980s that attempted to use dynamic trading to buffer portfolio losses and their evolution that brought us structured notes. According to Investopedia a structured note is a debt security whose return is based on equity indexes, a single equity, a basket of equities, interest rates, commodities, or foreign currencies. The performance of a structured note is linked to the return on an underlying asset, group of assets, or index1. virtual technologyWhile these products to seek to deliver a targeted outcome, it is important to note that they are not insurance products so are not guaranteed. Their ultimate success is to be determined, but they do represent an interesting development as asset managers continue to innovate and bring solutions to market that address perceived needs. At SEI, we have familiarity with these types of products and strategies, so this is not a new concept for us. That said, this new ETF investment option and the different iterations that may come to market are worth paying attention to. 
  3. Retirement Income Solutions: Since the 1950s, life expectancy in the U.S. has increased from approximately 68 years to 78 years, thanks to improved access to healthcare and advancements in medical technology and services2. As a result, retirement readiness is a challenge with 44% of adults in the U.S. who believe their retirement is not on track, while another 20% are unsure3. The broad shift from a classic pension, or defined benefit plan (DB), to the more traditional 401(k), or other defined contribution plan (DC), means that retirees are largely on their own when it comes to dealing with both their financial well-being in retirement and the risk of outliving their retirement savings. While target date funds used as a default option for many DC plans can help to address the retirement savings issue, what about longevity risk? At SEI, we have a solution called our Distribution Focused Strategies (DFS). We use asset allocation glidepaths that automatically rebalance to shift the asset allocation and are designed to provide distributions that align with cash-flow needs in retirement. The objective is to maximize the duration of distributions — but those distributions are not guaranteed.
    • Recently, BlackRock announced a solution that combines the traditional target date fund with annuities inside of a DC plan, giving the buyer the flexibility to guarantee a portion of their retirement income derived from long-term accumulation. While the components of this solution are not new, the packaging is. Fundamentally, these solutions are about simplifying a complex problem. The goal is to help investors manage their retirement income and maximize the likelihood that their money lasts. These approaches may or may not include a guarantee. As more investors address the question of their retirement readiness, advisors and asset managers have the opportunity to work together to deliver investment solutions that can address the need for retirement income security. Continued product development that focuses on retirement security for investors is worth paying attention to.

We won’t see any big stages or crowds waiting for hours for these developments in the underlying “technology” that drives asset management solutions, but they have the potential for far-reaching positive impact on our clients.  In an industry comprised of advisors, asset managers and other intermediaries, what we do day-to-day and the ways that we choose to innovate can be every bit as exciting as any high-tech product.

Growing up I loved technology, and still do. I also loved investing, and I still do. I believe this is an exciting time for asset management. I will continue to follow things that are worth paying attention to and report on them here.
 

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Legal Note

* https://www.statista.com/statistics/278249/global-number-of-etfs/
1 https://www.investopedia.com/terms/s/structurednote.asp
2 https://www.cdc.gov/nchs/data/nvsr/nvsr68/nvsr68_07-508.pdf
3 https://www.federalreserve.gov/publications/2019-economic-well-being-of-us-households-in-2018-retirement.htm
This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice and is intended for educational purposes only.
Traditional ETFs tell the public what assets they hold each day while semi and non-transparent ETFs will not. This may create additional risks including higher trading costs, increased market risks and greater volatility in bad or uncertain market conditions.
By keeping certain information about these funds secret, semi and non-transparent ETFs may face less risk that other traders can predict or copy their investment strategy. This may improve the fund's performance. If other traders are able to copy or predict the fund's investment strategy, however, this may hurt the fund's performance.
Neither SEI nor its affiliates provide tax advice. Please note that (i) any discussion of U.S. tax matters contained in this communication cannot be used by you for the purpose of avoiding tax penalties; (ii) this communication was written to support the promotion or marketing of the matters addressed herein; and (iii) you should seek advice based on your particular circumstances from an independent tax advisor.
Defined outcome ETFs have characteristics unlike many other traditional investment products and may not be suitable for all investors. Investors purchasing shares after an outcome period has begun may experience very different results than the fund's stated investment objective. Initial outcome periods are approximately 1-year beginning on the funds’ inception date. Following the initial outcome period, each subsequent outcome period will begin on the first day of the month the fund was incepted. After the conclusion of an outcome period, another will begin. If the outcome period has begun and the Fund has increased in value to a level near the cap, an investor purchasing at that price has little or no ability to achieve gains but remains vulnerable to downside risks. The cap may rise or fall from one outcome period to the next. The cap, and the fund’s position relative to it, should be considered before investing in the Fund. Defined outcome ETFs may also utilize leverage, including inverse leverage. Leveraged funds seek to deliver multiples of the performance of the index or benchmark they track. Inverse funds seek to deliver multiples of opposite of the performance of the index or benchmark they track. The use of leverage can amplify the effects of market volatility on the underlying fund’s share price. Leveraged funds are generally managed with a goal to seek a return tied or correlated to a specific index or other benchmark (target) as measured only with respect to a single day (i.e., from one NAV calculation to the next). Due to the compounding of daily returns, the returns of such leveraged funds over periods other than one day will likely differ in amount and possibly direction from the target return for the same period. These effects may be more pronounced over longer holding periods, in funds with larger or inverse multiples and in funds with volatile benchmarks.
With SEI Distribution Focused Strategies, there is no guarantee that the investment objective will be fulfilled. The principal balance of the portfolio may be depleted prior to a portfolio’s target end-date and, therefore, distributions may end earlier than expected. This risk increases if the distribution amount chosen is a significant portion of the starting principal. The projected time periods do not take into account the payment of fees to the advisor out of the portfolio or any other distribution from the account.
Glide path refers to a formula that defines the asset allocation mix of a fund or strategy, based on the number of years to the target date. The glide path creates an asset allocation that typically becomes more conservative as a fund or strategy gets closer to the target date.
Investing in target date funds involves risk, including possible loss of principal. The target date in the name of the funds is the approximate date when an investor plans to start withdrawing money. The blend of investments in each portfolio are determined by an asset allocation process that seeks to maximize assets based on an investor’s investment time horizon and tolerance for risk. Typically, the strategic asset mix in each portfolio systematically rebalances at varying intervals and becomes more conservative (less equity exposure) over time as investors move closer to the target date. The principal value of a fund is not guaranteed at any time, including at and after the target date.
With regards to retirement income annuity products, guarantees are subject to the claims-paying ability of the issuing insurance company.
Information provided by Independent Advisor Solutions by SEI, a strategic business unit of SEI Investments Company. The content is for educational purposes only and is not meant to provide investment advice or as a guarantee of any specific outcome. While SEI welcomes comments, SEI is not responsible for, and does not endorse, the opinions, advice, or recommendations posted by third parties. The opinions expressed in comments are the view(s) of the commenter(s), and do not represent the views of SEI or its affiliates. SEI reserves the right to remove any content posted by users of this site in its sole discretion.

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