ETF Edge - ETFs in 2020, The Race to Zero & Presidential Election Impact

Episode Date: October 5, 2020

CNBC’s Bob Pisani speaks with Armando Senra, head of iShares Americas at BlackRock, Jim Lowell, chief investment officer at Adviser Investments and Kevin O’Leary, chairman of O’Shares ETFs. They discussed major themes this fall, several hot new product launches and what impact the presidential election might have on the ETF world. In the 'markets 102' portion of the podcast, Bob discusses fund flows both in September and for the year. Hosted by Simplecast, an AdsWizz company. See pcm.adswizz.com for information about our collection and use of personal data for advertising.

Welcome to ETF Edge, the podcast. If you're looking to learn the latest insights on all things, exchange traded funds, well, you're in the right place. Every week we're bringing you interviews, market analysis, and bringing now what it means for investors. I'm your host, Bob Pisani. Today on the show, we'll sit down with some of the best minds in the business to talk about what major themes they're keeping an eye on for this fall.

Several hot new product launches, what impact the election might have on the ETF world. Here's my conversation with Kevin O'Leary, chairman of O'Shares, ETFs and Shark Tank co-host, Jim Lowell, CIO of advisor investments, and Armando Cendra, head of Black Rock's Ice Shares Americas. Armando, let me start with you. Ice Shares is the largest ETF family in the world.

You're the guy in charge. Give us a quick overview of ETF trends this year overall. We're still seeing inflows, but it's a little bit lumpy. What's going on? Yeah, sure, Bob, and great to be here. Let's just begin. a roller coaster of a year for all of us and our lives and it's no different for the ETF industry, but overall it continues in a strong path for growth. So you have seen a strong

adoption of fixing Com ETS. That's a theme that we've been talking about for quite a long time. You've seen strong growth in sustainable, and that's something that year today that represents 20% of our flows. And you and I would talk about it at the beginning of the year. So very strong growth. We've seen investors becoming more aware and concern about inflation, and you've seen flows into commodity ETFs. You've also seen, especially during the summer, flows into tips again because of inflation concerns. And the other thing that has been interesting at the beginning of the year, you saw quite a bit of outflows from anything international equities related. And you're beginning to see now with a weaker dollar and also the underweight positions that most investors have

international. You're beginning to see flows back into international. So I would say those are the main themes, fixing committee apps, the growth of sustainable investing, and what you've seen this year insurance of risk on and risk off and how investors have played that out. Yeah, Kevin, you've had a good year. Speaking of flows here, we were talking earlier about your Internet Giants, ETF OGIG. You're hitting on all the right notes here. It's 70% gain, I think, so far this year. Notable inflows, I think 300% increase in the shares outstanding there. I guess the question is you're hitting on all the right stuff. You own the big mega caps in the U.S. You own the two big China mega caps, Tencent and Alibaba there. How much longer do you think

we can still have interest in these broad mega cap names before something else, like value, starts outperforming? Yeah, I think value just leads you into some pretty dangerous territory. like food services and lodging, hotels, cruise ships. I don't consider those value. I think they're dangerous. What's happening with OIGG is basically the world is changing. It's doing a digital pivot. It doesn't matter if you're doing it here in the U.S. with the Fangs, which are included in OGIG, but it's also happening in Asia.

It's happening in Europe. It's happening in South America. And the trend is that people have decided, and of course it's COVID-related, but for the first time, a whole new generation of people are going online and buying goods and services direct from the various businesses they get it from. You saw it in Nike numbers, for example. But what OIG tries to do is find the 70 or 80 companies around the world that are the giants that are leading this trend.

And I don't think we're even in the third inning yet because the pandemic is just one attribute. But it's not about staying at home and working. It's working from anywhere and buying anything from anywhere, delivered any time. And so that is really the engine of what has made OGIG so successful. And I think we're just at the beginning, Bob. Yeah. And you were one of the guys, Kevin, that was into factors very, very early.

You were talking about high quality, low volatility as a factor. And OUSA, I think this is the fifth anniversary for it, was a dividend, but essentially went into the factor area. And factoring has proven to be very successful. There's some academic evidence that factors tend to outperform. but when applied to specific areas, they can also do a little bit better. So OUSA is what, five years old now, Kevin? This is a dividend. Yes, yes. In fact, I remember you were there when we rang the bell on it from the balcony. I'm very excited.

It's a big deal for an ETF to get to its fifth year because that track record really matters in terms of people looking at performance. And it's a dividend strategy, but a quality dividend strategy. And factor really matters, the quality of the balance sheet, the return on assets, sustainability of the business model, the free cashfall. How much debt does the company have? So if you looked at the S&P 500, there's many sectors and many companies I wouldn't want to own. For example, some of the energy stocks which have 8, 9, 10 percent dividends.

You'd think they'd be great and they would show up all over the place in dividend growth stories, but they are not safe. And I don't think those dividends are safe, and they are certainly not in O USA. We've made sure that it's just quality. So it's a subset of the S&P 500. About 100 stocks that we feel are safe to own during these really volatile times. Right. That's an important thing. It's not a high dividend fund that you're running. It's a dividend fund with quality overlay on it. And that's where you get the distinction with, for example, leaving out the energy stocks. I want to move on and talk about ESG, environmental, social, and government. It's Jim, let me turn to you. My attention was really caught last week when Burton Malkiel, a man I greatly respect, the author of a random walk on Wall Street, which essentially said you can't outperform the market 45 years ago, his famous book. editorial in the Wall Street Journal last week saying sustainable investing is a self-defeating strategy.

He complained that the scores from different providers on ESG differed dramatically. Jim, what I've noticed is there's a little bit of pushback on ESG this year. Some of it's ideological, some of it's from oil companies, some of it's from conservatives who don't like what they consider to be pushing social policy. Here's Burton Malkiel even making some points about this. Is this a real thing here, this pushback on ESG, and is it going to impair the growth of ESG at all? Doubtful on all counts, although like you, I'm a big fan of Professor Malcgild. I believe he still works at Princeton, where, of course, Princeton's own money management company's slogan is invest well and do good. I get the ideological pushback, but look, investing in businesses that can profit from accelerating change for the better makes sense to me.

Of course, you have to have to be very selective in what you're going to do. you're investing in. But if you take a long-term view, alternative energy, biotech, more equitable access to health care, technology, less invasive medical equipment systems, I mean, these are all things that we can not just believe in, I think, but profit by. But that doesn't mean, of course, that's a classic counterargument, you know, make as much money as you can any way you can, and then do good things with that money. It doesn't continue to make sense. It certainly does. and it's, I guess, hard to think of a building on Princeton campus, but it's named after someone who pursued that line of reason.

Armando, let me let you weigh in here on this. You run some of the biggest ESG ETFs out there. S-U has been tremendously successful. ESGU, also tremendously successful. SVV also out there. How do you feel about this pushback here? Let me just say, Bert and Professor Malcoe came out and said, the scores from different providers disagree dramatically.

He noted very different ratings for different companies, say Intel, Pfizer, Comcast. He specifically cited, depending on which rating agents you go to. He also noted there's no studies that show ESG provides higher returns necessarily. I'm not sure that's necessarily the point, but is he making valid points about this? How does the industry respond to Professor Malco's comments? Yes, Bob, and I think that the sustainable has really gone from being about values to be about investment risk and investment performance. And I think that that has been a big change that eliminates what it was, a very polarizing conversation in terms of what do you believe in. This is not about whether you believe in climate change or not.

This is about investment risk. And the fact is that ESG-related risks have an important consideration to asset pricing and ultimately to return. That's the big change that we have seen in the conversations with all types of clients, whether it's wealth clients or institutional clients. And that's the big change that is driving all types of investors to begin to incorporate ESG considerations in their portfolios. And there's different ways in which they can do it. They don't have to deviate from the benchmark. They can take a more pure approach to ESG investing, but then they'll deviate more from the benchmark.

But you're beginning to see how they're incorporating those ESG-related considerations. And the fact is, going back to your point, these ESG-related risks are not necessarily new, but now we have much better way, much better technology and data to be able to account for them, to quantify them, and therefore to be able to take them into consideration when we are building portfolios. So this is not about values. This is about investment risk. This is not about not making money. Ultimately, we have a fiduciary responsibility with our investors.

is not our money, it's our client's money. And therefore, performance comes first. And that's what we need to offer. And that's why we also have dramatically increased our offering of products for investors so that we can work with them along the spectrum of different options as to how they want to incorporate ESG into their portfolios. Yeah, I think it's very interesting. There's some very valid points on both sides.

I have generally been in favor of the whole ESG movement. And just because it's difficult to quantify, quantify, doesn't mean you can't do it and can't get better at it. And people are demanding it. So the clients out there that want it. It's interesting. Malchial doesn't say don't do it in the editorial. He concludes by saying, if you're doing it, the best way to invest is low-cost index funds. Of course, it's Burton-Malkeel.

But then he says, if you want to do ESG, do it as an add-on to investing in broad, low-cost indexes. He doesn't come out and specifically say, oh, no, don't. don't do it. He just sort of raises, here's some points that you ought to be aware of, most of which I think are valid. I want to move on here and talk about a couple of other quick topics. Well, I've got you, the brain trust here. We are, Jim, we're less than a month before the elections here. Polls are showing Vice President Biden in the lead. We're not politicians, but what if anything, would a Biden victory mean for ETFs in the mutual fund industry, or even if a Democratic sweep of the Senate? Would it have any impact on the ETF or investing? industry? Well, broadly speaking, if it was a sweep,

Altery would probably have a hiccups just due to the fact that he comes to favor gridlock. But if Biden, I'd say, it's almost priced into today's market prices, given that all the polls suggest that he's significantly ahead of the president. Where I think it favors most will be in the overlooked, underappreciated, unloved areas, the value side of the ledger. As I suspect, we'd see a massive stimulus injection this time. tied to actual job creation, not just for roads, bridges, sewer, pipelines, but also for the inflammation technology highway that as a still developing democracy, we need to ensure equitable access to opportunity among all of our citizens.

So I think you might see value begin to at least be a second ore in the water next to the growth side in technology rather than just spinning on the access of technology in 2021. one. Yeah. Kevin, you want to take a swing at this? I mean, one thing that's very interesting to me is they seem to be talking about two different kinds of stimulus programs. One is the stimulus that Pelosi and Manucci, excuse me, are discussing. But then the street seems to be actively discussing what if anything would happen if the Democrats were in power and there was a separate stimulus plan. Jim seems to allude to that with infrastructure for example. Does this mean anything to you? Is this on your radar at all, Kevin? Yeah, it is. I mean, I would say, first of all, I've learned since the Brexit vote, never to use polls to make investment decisions. They're entertaining, but they do not determine outcomes. So the question, let's make the assumption, as you said, that Biden wins, and even it's a Democratic sweep. Fine. He'll inherit an economy somewhere between 8% and 9% unemployment. His number one mandate will be to get those people back to work. So let's take the idea of raising taxes dramatically to corporations. Highly. unlikely. You're going to spend a billion to $2 billion, or sorry, a trillion to $2 trillion from the top. You're pouring that on the economy. It makes no sense to tax it away as soon as you deliver it. So there'll be a delay on tax increases, I would assume, for probably 24 months until he got unemployment below at least 5%. Given his age, the chance of a second mandate is

very, very low. So I'm going to make the assumption he'll be tied up. His hands are tied in making any dramatic policies. Let me give an example, the Great Green Deal. That would displace about a quarter of a million to half a million people working in the energy space right now, highly unlikely when you're at 8.5% unemployment. So I'm going to make the assumption that even if the reason the market's ignoring this election, more or less, is Biden's going to be pretty benign. He won't be able to get much done, if anything, towards these dramatic changes in policy. And that'll be left for the election after he's finished his first and only mandate. And I'm not trying to be critical at all. Age is a factor,

obviously. Armando, just briefly, the taxation on capital gains is the one thing, the trading that's always say, oh, that's something we're really worried about because he does have that in his policy. Is that a concern for the ETF industry overall and the investment industry overall? Or do you feel like Kevin that it's unlikely a lot of these proposals will get enacted? I agree with Kevin, and I think that what matters the most is number one for investors to stay invested. I mean, if Biden wins, you're going to see large fiscal stimulus that is going to come and support the market. So ultimately, the most important thing is to have the election over that will remove the uncertainty and that will be good for the market. Okay, let me move on here. We have talked

a lot here about the FEMORs and what it means for consolidation in the industry. Interesting development last week. The hedge fund run by Nelson Pellon. has taken an almost 10% stake in Invesco and in Janice Henderson, signaling they want to push some of these asset managers to either be more efficient or even possibly consolidate. We have talked about this before. Armando, you're the king of the hill here, Black Rock and Vanguard, the two biggest ETF families out there. Let me just ask you, Armando and all the guys, all three of you, do you feel the consolidation in this industry is inevitable? and 2021 will seek more consolidation. Yeah, Bob, we've said for a long time that the scale is necessary, and that leads to consolidation in the industry.

Ultimately, if you think about the scale, what it allows you is to bring innovation to the market, to deliver quality and value to investors. So I think a scale is necessary, and I think that without the scale, I mean, think about what we've done this year, our ability to bring to market at the scale with quality, over 40 new products. So that's something that you need to do with the scale.

So yes, we've seen it before. We've mentioned that before. We do believe in consolidation in the industry. Yeah, Jim, that seems to be the answer to everything. Bulk up on your assets under management. Easy to do with your BlackRock. It's a little tougher if you're everybody else out there, right? It definitely is.

Look, you can count the number of mutual fund companies that you could, that an average of venture could name, probably to Fidelity Vanguard, maybe TROP price. There's an industry that went through massive consolidation. EPS industry clearly going to do much the same. And for the benefit for the retail investment in the professional advisor, it usually leads to lower cause for the underlying products,

whether actively managed mutual funds, passive indexes, or EPS. So I think you're absolutely right, Bob and Armando, that that trend is in place. You know, Kevin, I'll leave the last, with you. Maybe the answer, if you're struggling, is to come up with new innovative products. I mean, look what you did. You set up O'Shares and you've got a dividend fund that doesn't just buy the high dividends. You overlay it with a quality overlay. We just talked about that. There's an innovative product. You're doing pretty well like that. Don't you think the future is,

other than just, oh, let's get more assets under management. Let's have more innovation, more innovative products. Isn't that the answer? Or do you have some other brilliant explanation or what we should be doing? No, no, I think you're right. I think you need both. I mean, the truth is there is a barrier to entry in the NTF market now. You don't see a lot of new firms opening up because until you get a billion under management, you're not making any money. Compliance costs are significantly higher than what they were just a few years ago. So that's a factor. Innovation really matters. Clearly, you know, getting the first 50 million into an ETF gives you some indication of whether there's interest there or not, but you'd never know to you go out there and put it out. I mean,

I built these indices to serve my companies and my family trusts. I like to have a hand in what I invest in, and that's why I did it. It's a little unique because I can afford to seed my own products. But at the same time, innovation will always drive this market. And the thing about the ETF itself as a structure, it will ultimately be the most successful investment vehicle for institutions and individuals, because it's transparent, it's efficient, low cost and it's incredibly tax-efficient. So I feel that we're really only in the fourth, maybe the fifth inning of what this sector is going to be. And the innovation that comes in the

form of factor-based or actively managed or all the other ideas that are being floated are incredibly healthy. Obviously, because of COVID, we haven't gathered like a flock somewhere like we usually do in South Florida. But hopefully next year we'll do that again. And I love those sessions and those seminars and when the industry gets together and says, what can we do for clients? But clearly, we've made it far less expensive and we've delivered tremendous diversity as an industry. And the clients know that, whether they're a sovereign fund in the Middle East or they're an individual investing in California. We do it for everybody. Yep, and that's why the show exists, ETF Edge, because ETFs are a very efficient investment

mechanism. Now it's time to round out the conversation with some analysis and perspective to help you better understand ETFs with our market's 102 portion of the podcast. Today we'll take a little bit of deeper dive into fun flows both in September and for the year. Here's my producer, Kirsten Chang. Bob, September was the first losing month for stock since March, but all signs point to ETF flow is still going strong. What's behind some of the recent strength and what were the key trends or themes driving the inflows in your view last month? Despite all the chaos, Kirsten, that we've been seeing around COVID this year, the flows are remarkably similar to flows we've seen in prior years. Generally, fixed income is continuing to see very strong inflows.

Some of it is looking for protection against potential inflation. So tips, for example, are strong. ESG is continuing to be really strong. It's probably 20% of the inflows. But we're also getting some flows into commodity ETFs. That's kind of interesting. We did see some outflows this year in international, but it's starting to come back. I think the most important thing for the overall market is the ETF business, the assets under management, overall assets under management, continue to grow.

We're moving towards $5 trillion. And one of the reasons is because active management ETFs are also now starting to come into existence in a big way. So remember, prior to the last couple of years, almost all ETFs were essentially. essentially passive. That is, they were tied to indexes. They weren't actively managed. But now we're starting to see not only actively managed ETF, but active non-transparent ETFs. That means these are ETFs that don't reveal what their holdings are on a daily basis. They reveal them on essentially a quarterly basis, like mutual funds. And what's been happening is we have seen active fund managers that are in mutual funds that have been losing money, moving over to an ETF space,

which are more efficient in terms of taxation, but more importantly, they can move them over into the ETF space and not have to show their holdings on a daily basis. When that change was made, that made a lot of active fund managers a lot more comfortable with using the ETF space. So simply with that move alone, we're seeing money coming out of, continuing to see money coming out of mutual funds, but, particularly in the active space in mutual funds, now that they can set up a similar active investment ETF that essentially mirrors the old mutual fund.

So I could continue to say assets under management for ETFs are going to continue to go up, not only because passive is the way to go, and ETFs are a wonderful vehicle for doing that, but also because those who believe in active management are also moving into the ETF space. We've often talked about the fee wars and what that means for consolidation in the financial services and ETF business.

Nelson Peltz's hedge fund, Tryon, has just taken an almost 10% stake in both Invesco and Janice Henderson. What do you think that signals and what does it mean for the industry? You know, what this means, Kirsten, is there's going to be more consolidation. I mean, Peltz is a little bit late to the party here. He happens to be an active kind of guy who's taking a position, but he's essentially saying what everybody is known for a long time, which is that consolidation is inevitable. It's great to keep cutting the fees, but somebody's going to pay the piper. And what that means is, as the fees

gets smaller, people fight for what part of the pie is left over. So what's the answer? The answer for everybody is just to get bigger. So essentially, when your fees get smaller, you have to have more assets under management. So, for example, if you have a million dollars a year, an asset, under management and you charge, you know, one percent, you collect $10,000. But if you charge a half a percent, you collect $5,000. Well, how do you change the overall pot that you're collecting? If the assets are the same, then you're in trouble. You're only collecting $5,000.

But if you double the assets from year to year, instead of $5,000, you're collecting $10,000. So the answer to the low fee rewards is everybody's trying to get more assets under management, So everybody's fighting for a piece of the pie. People have been doing mergers for a while. Remember, Invesco bought part of Oppenheimer's business, so there is consolidation going on in the business. But I expect more of that to happen. What else could you do?

Well, I was talking to Kevin O'Leary about this. One of the things you can do is how about being a more innovative? How about having newer products out there? Look at Kevin O'Leary. One of the reason I like him a lot is he's an entrepreneur. He came into this ETF business. We were friends five years ago and talking about the ETF business, and I was talking about how great it was,

with the great taxation opportunities. And what did he do? He came in and offered some products that were very innovative. The O'Shares dividend product, OUSA, for example, I talk about this all the time. Most of these funds that have dividends, there are dividend funds, they often try to have, essentially, stocks that have high dividends.

But O'Leary knew that having a high dividend doesn't necessarily mean it's good, it's good or that it's safe. I mean, obviously, look at the energy stocks. You could have high dividends, you know, but they're not very safe necessarily. They could be cut very easily. So he overlaid quality on top of that. But he put a factor into that and created an ETF out of it. And it's been performing pretty well overall. So I say more innovation is another way besides just saying, oh, let's get more assets under management. There's a lot of concerns out there. You know, People talk about synergies if we merged companies, but yes, there are some cost savings.

I don't know how great they are, and I don't think they're as great as people say they are. I also think one problem with merging two large firms is you tend to lose assets. In the past, when this has happened, we've seen people leave because they don't want the combined company. People or customers go away. You could lose 5, 10 percent of your assets. So there's risk to merging overall. But I agree with the general idea that overall the big are going to get a lot bigger. That's it for today. I'm Bob Bizani. Thank you for listening.

And make sure you tune in next week. And in the meantime, you can tweet us your questions or topic ideas at ETF Edge, CNBC.