The current market environment requires that investors seek income and fight inflation at the same time and, thankfully, a growing variety of ETFs make that completely possible, David Mazza, head of ETF investment strategy for State Street Global Advisors, said in an interview.
IndexUniverse Correspondent Cinthia Murphy caught up with Mazza on the sidelines of last week’s Morningstar ETF conference, where Mazza also argued that rising correlations in asset markets have a lot more to do with the uncertain macroeconomic environment than with the broad accessibility of the ETF.
Murphy: If we look at the markets in general, it seems investors are seeking yield as well as inflation protection these days. Do you see these two factors as driving forces in the ETF space right now?
Mazza: I do. It’s actually interesting: One would think that income generation—or the need for it—and inflation protection might be mutually exclusive. But in today’s investment market, and the ETF’s ability to harness that market, those two elements have actually began to converge.
With central banks having policies to keep interest rates at very low levels, traditional sources of income have now been compressed for years, and regulators are basically signaling to the market that that compression will remain. That’s created the need for investors to think of income from a global perspective—from a total portfolio perspective. There’s no longer going to be just one source of income.
It’s no longer just about fixed income or equities. Now, within equities, you have to start thinking about whether you need a tilt for dividends to have a portfolio that has a greater focus on current income rather than capital appreciation, but one that still has that potential for capital appreciation. Within fixed income—which we often think of as a more traditional source of income—we have already seen this year big inflows into high-yield ETFs like JNK, HYG, and now we have begun to see interest in FEZ, which is a euro stocks portfolio.
The income potential from FEZ is very good: 49 out of its 50 companies pay dividends. They also tend to be high-quality global brands that, while domiciled in countries like France or Germany, are still selling to many markets. They are global in scope, and therefore have the ability to weather the negative headlines coming out of Europe.
Murphy: How does the growing concern over inflation play into that?
Mazza: Taking that back to the inflation side, yes, you don’t need to necessarily see actual inflation coming through. The way CPI might be measured could be low for the next six months, the next year or the next two years. But the expectation component has certainly risen. Investors might be thinking: “Do I need to brace for that potential inflation environment now? Do I need to look at all the sources of inflation protection again?” And that protection comes from REITs, TIPs, global natural-resource equities and commodities.
What’s interesting is that within that real assets suite, investors have the ability to tilt portfolios toward things that may actually be driven more by expectations such as equities and commodities versus those that are driven by inflation risk such as TIPS where you actually see the coupon change. So, I think these two things are coming together at this point in time, which is kind of interesting.
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