Private investors have grown to love exchange-traded funds (ETFs), which enable them to easily track a host of global markets and maximise their returns by paying impossibly low annual fees.
This has been a welcome revolution, giving power to small investors and saving them from handing over a small fortune in charges to expensive active fund managers.
Yet ETFs do have one big drawback. While they are pretty much guaranteed to match the performance of their chosen index, minus that small fee, they will never actually beat it.
That’s because they are obliged to buy every stock listed on the index, the good, bad and in some cases downright ugly, and passively follow them up or down.
Now, a twist on ETFs offers investors the chance to filter the bad and ugly out of their portfolio, and only buy the good guys.
It is called direct indexing, or sometimes personalised indexing, and helps investors or their advisers build a customised portfolio that offers greater freedom and flexibility than either ETFs or actively managed mutual funds.
The concept has been taking the US market by storm, where it is expected to grow faster than any other investment vehicle over the next four years.
Cerulli Associates expects direct indexing growth to outpace both ETFs and active funds, with average annual growth of 12.3 per cent a year.
Assets invested in direct indexing will almost double to about $825 billion by 2026, up from $462 billion last year, it says in a report sponsored by direct-indexing provider Parametric Portfolio Associates.
Cerulli research director Tom O’Shea reckons direct indexing is ready to deliver “mass customisation” and provide a “silver bullet” for investors, but what does the concept mean in practice?
First, if you have not heard of direct indexing, do not worry. The concept is fairly new and mostly restricted to the US, but then so were ETFs at first, and see how swiftly they have conquered the world.
The key difference with direct indexing is that you are buying the individual stocks on a market rather than all of them, as you do with an ETF or mutual fund.
As well as the cherry-picking benefits, this allows you to replicate the performance of that index by directly purchasing a few of its constituent members and adjusting them over time, says Vijay Valecha, chief investment officer at Century Financial.
Since you own the individual stocks, you can adjust your holdings to fit your specific circumstances.
“Unlike one-size-fits-all ETFs or mutual funds, you can customise your portfolio to, say, include more tech stocks and fewer utility stocks,” he says.
If an investor already has a large stake in an individual company listed on an index they want to track, direct indexing allows them to exclude that company from their portfolio.
For example, somebody who made a large bet on electric carmaker Tesla might be reluctant to double down by buying it in a tech tracker, too.
The same might apply if an investor already owns a heap of shares in their employer and don’t want further exposure when buying the index it is listed on.
Direct indexing also allows investors to exclude a stock or sector on environmental, social and governance (ESG) grounds, say, if they don’t want to buy into a tobacco manufacturer or a fossil fuel exporter.
This seems to offer the best of both worlds, at least in theory. Passive investing, with active engagement.
Unlike one-size-fits-all ETFs or mutual funds, you can customise your portfolio to, say, include more tech stocks and fewer utility stocks
Vijay Valecha,
chief investment officer, Century Financial
Mr Valecha says it has a further benefit as it can offer tax advantages that traditional ETFs do not, known as tax-loss harvesting.
“This involves selling individual securities in your portfolio at a loss, even when the index has climbed as a whole,” he adds.
By doing this, you can generate losses to offset against your capital gains from other positions in the same tax year, potentially lowering your overall bill.
“Over time, these incremental tax savings can add up significantly,” he says.
Vanguard Personalised Indexing automatically scans investors’ portfolios each day for tax-loss harvesting and rebalancing opportunities, helping them optimise holding periods and offset capital gains and losses.
This strategy is not an option when investing in standard ETFs because you own only interests in the fund, rather the individual securities, Mr Valecha adds.
One drawback is that it takes time and effort to identify and purchase the securities.
“Some of the stocks may not be easily available for purchase, making it difficult for smaller investors to obtain them at a reasonable price,” Mr Valecha says.
Until recently, only large, institutional clients or high-net-worth investors could tap into direct indexing, but now platforms such as Fidelity, Schwab, BlackRock, Vanguard and Morgan Stanley are opening the concept to a much wider market by offering cheaper, automated services.
How much you need to access the service varies. For example, Fidelity offers it from $5,000 while Schwab's minimum investment is $100,000.
Jason Hollands, managing director of fund platform Bestinvest by Evelyn Partners in the UK, says the supposed tax advantages of direct investing will depend on the country.
“In the UK, for example, investment fund structures are highly tax-efficient as trades within funds do not incur capital gains tax liabilities. You only crystallise a gain when you sell shares in the fund itself, so there is no real benefit here.”
Giles Coghlan, chief market analyst, consulting, for brokerage HYCM, suggests the ability to exclude individual stocks may be overrated.
“Even if one stock drops deeply, if it is part of a larger index like the S&P 500, it isn’t particularly damaging to your portfolio.”
David Morrison, senior market analyst at Trade Nation, says this remains a niche area and for most investors, ETFs remain the simplest and cheapest option.
“Direct indexing demands time and effort, either from you or your financial adviser. That means there will be management fees and commissions, if actively buying and selling individual stocks within the index.”
These may be offset through tax savings, but the process will work best on larger portfolios, which offer economies of scale.
“By contrast, it’s relatively cheap to buy and hold an ETF, although you have no control over what’s in it,” Mr Morrison says.
For most investors, ETFs will be enough. Having more control is great, unless it comes at the cost of even greater complexity.
Pakistan squad
Sarfraz (c), Zaman, Imam, Masood, Azam, Malik, Asif, Sohail, Shadab, Nawaz, Ashraf, Hasan, Amir, Junaid, Shinwari and Afridi
Mercer, the investment consulting arm of US services company Marsh & McLennan, expects its wealth division to at least double its assets under management (AUM) in the Middle East as wealth in the region continues to grow despite economic headwinds, a company official said.
Mercer Wealth, which globally has $160 billion in AUM, plans to boost its AUM in the region to $2-$3bn in the next 2-3 years from the present $1bn, said Yasir AbuShaban, a Dubai-based principal with Mercer Wealth.
“Within the next two to three years, we are looking at reaching $2 to $3 billion as a conservative estimate and we do see an opportunity to do so,” said Mr AbuShaban.
Mercer does not directly make investments, but allocates clients’ money they have discretion to, to professional asset managers. They also provide advice to clients.
“We have buying power. We can negotiate on their (client’s) behalf with asset managers to provide them lower fees than they otherwise would have to get on their own,” he added.
Mercer Wealth’s clients include sovereign wealth funds, family offices, and insurance companies among others.
From its office in Dubai, Mercer also looks after Africa, India and Turkey, where they also see opportunity for growth.
Wealth creation in Middle East and Africa (MEA) grew 8.5 per cent to $8.1 trillion last year from $7.5tn in 2015, higher than last year’s global average of 6 per cent and the second-highest growth in a region after Asia-Pacific which grew 9.9 per cent, according to consultancy Boston Consulting Group (BCG). In the region, where wealth grew just 1.9 per cent in 2015 compared with 2014, a pickup in oil prices has helped in wealth generation.
BCG is forecasting MEA wealth will rise to $12tn by 2021, growing at an annual average of 8 per cent.
Drivers of wealth generation in the region will be split evenly between new wealth creation and growth of performance of existing assets, according to BCG.
Another general trend in the region is clients’ looking for a comprehensive approach to investing, according to Mr AbuShaban.
“Institutional investors or some of the families are seeing a slowdown in the available capital they have to invest and in that sense they are looking at optimizing the way they manage their portfolios and making sure they are not investing haphazardly and different parts of their investment are working together,” said Mr AbuShaban.
Some clients also have a higher appetite for risk, given the low interest-rate environment that does not provide enough yield for some institutional investors. These clients are keen to invest in illiquid assets, such as private equity and infrastructure.
“What we have seen is a desire for higher returns in what has been a low-return environment specifically in various fixed income or bonds,” he said.
“In this environment, we have seen a de facto increase in the risk that clients are taking in things like illiquid investments, private equity investments, infrastructure and private debt, those kind of investments were higher illiquidity results in incrementally higher returns.”
The Abu Dhabi Investment Authority, one of the largest sovereign wealth funds, said in its 2016 report that has gradually increased its exposure in direct private equity and private credit transactions, mainly in Asian markets and especially in China and India. The authority’s private equity department focused on structured equities owing to “their defensive characteristics.”
Infiniti QX80 specs
Engine: twin-turbocharged 3.5-liter V6
Power: 450hp
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UAE currency: the story behind the money in your pockets
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Key facilities
- Olympic-size swimming pool with a split bulkhead for multi-use configurations, including water polo and 50m/25m training lanes
- Premier League-standard football pitch
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- 600-seat auditorium
- Spaces for historical and cultural exploration
- An elevated football field that doubles as a helipad
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What can victims do?
Always use only regulated platforms
Stop all transactions and communication on suspicion
Save all evidence (screenshots, chat logs, transaction IDs)
Report to local authorities
Warn others to prevent further harm
Courtesy: Crystal Intelligence
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The Greatest Royal Rumble card as it stands
50-man Royal Rumble - names entered so far include Braun Strowman, Daniel Bryan, Kurt Angle, Big Show, Kane, Chris Jericho, The New Day and Elias
Universal Championship Brock Lesnar (champion) v Roman Reigns in a steel cage match
WWE World Heavyweight Championship AJ Styles (champion) v Shinsuke Nakamura
Intercontinental Championship Seth Rollins (champion) v The Miz v Finn Balor v Samoa Joe
United States Championship Jeff Hardy (champion) v Jinder Mahal
SmackDown Tag Team Championship The Bludgeon Brothers (champions) v The Usos
Raw Tag Team Championship (currently vacant) Cesaro and Sheamus v Matt Hardy and Bray Wyatt
Casket match The Undertaker v Chris Jericho
Singles match John Cena v Triple H
Cruiserweight Championship Cedric Alexander v tba
WOMAN AND CHILD
Director: Saeed Roustaee
Starring: Parinaz Izadyar, Payman Maadi
Rating: 4/5
COMPANY%20PROFILE
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MATCH INFO
Mainz 0
RB Leipzig 5 (Werner 11', 48', 75', Poulsen 23', Sabitzer 36')
Man of the Match: Timo Werner (RB Leipzig)
ELIO
Starring: Yonas Kibreab, Zoe Saldana, Brad Garrett
Directors: Madeline Sharafian, Domee Shi, Adrian Molina
Rating: 4/5
Andor
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Our family matters legal consultant
Name: Hassan Mohsen Elhais
Position: legal consultant with Al Rowaad Advocates and Legal Consultants.
The specs
Engine: 3.0-litre six-cylinder turbo
Power: 398hp from 5,250rpm
Torque: 580Nm at 1,900-4,800rpm
Transmission: Eight-speed auto
Fuel economy, combined: 6.5L/100km
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Price: From Dh330,000 (estimate)
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Benefits of first-time home buyers' scheme
- Priority access to new homes from participating developers
- Discounts on sales price of off-plan units
- Flexible payment plans from developers
- Mortgages with better interest rates, faster approval times and reduced fees
- DLD registration fee can be paid through banks or credit cards at zero interest rates
Results
6.30pm: The Madjani Stakes (PA) Group 3 Dh175,000 (Dirt) 1,900m
Winner: Aatebat Al Khalediah, Fernando Jara (jockey), Ali Rashid Al Raihe (trainer).
7.05pm: Maiden (TB) Dh165,000 (D) 1,400m
Winner: Down On Da Bayou, Royston Ffrench, Salem bin Ghadayer.
7.40pm: Maiden (TB) Dh165,000 (D) 1,600m
Winner: Dubai Avenue, Fernando Jara, Ali Rashid Al Raihe.
8.15pm: Handicap (TB) Dh190,000 (D) 1,200m
Winner: My Catch, Pat Dobbs, Doug Watson.
8.50pm: Dubai Creek Mile (TB) Listed Dh265,000 (D) 1,600m
Winner: Secret Ambition, Tadhg O’Shea, Satish Seemar.
9.25pm: Handicap (TB) Dh190,000 (D) 1,600m
Winner: Golden Goal, Pat Dobbs, Doug Watson.
RACECARD
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F1 The Movie
Starring: Brad Pitt, Damson Idris, Kerry Condon, Javier Bardem
Director: Joseph Kosinski
Rating: 4/5
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