Direct indexing essentially allows investors to cherry-pick which stocks to buy in a benchmark index
Author of the article:
Bloomberg News
Katie Greifeld
Publishing date:
Dec 07, 2022 • 16 hours ago • 2 minute read
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A monitor displays S&P 500 market data in front of the New York Stock Exchange. Photo by Michael Nagle/Bloomberg files An index strategy that’s all about customization is expected to grow faster than other investment vehicles over the next four years as investors’ desire for personalization intensifies.
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Cerulli Associates Inc. expects assets in so-called direct indexing to climb to US$825 billion by 2026 from roughly US$462 billion now, according to the research shop’s new paper sponsored by direct-indexing provider Parametric Portfolio Associates LLC. That’s a five-year compound annual growth rate of 12.3 per cent, exceeding growth forecasts for exchange-traded funds, mutual funds and separately managed accounts.
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Direct indexing essentially allows investors to cherry-pick which stocks to buy in a benchmark index instead of owning a fund that tracks a specific gauge such as the S&P 500. In recent years, the strategy has boomed in popularity. It gives specialization-minded advisers the ability to tailor portfolios at lower costs, which has become more important as asset management firms vie for clients’ dollars.
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“Competition continues to intensify in the wealth management industry as investors exercise more control over their portfolios and providers are challenged to differentiate,” the Cerulli paper said. “This has continued to amplify industry interest in direct indexing and, more broadly, mass customization of client portfolios.”
Wall Street has been pouring billions of dollars into direct indexing. Franklin Resources Inc., better known as Franklin Templeton, bought O’Shaughnessy Asset Management LLC in September 2021 for its custom-indexing business known as Canvas. In 2020, BlackRock Inc. purchased Aperio for US$1 billion, while Morgan Stanley paid more than US$7 billion for Eaton Vance Corp. and its custom portfolio business Parametric in 2020.
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To be sure, total assets in direct indexing are still dwarfed by ETFs and other products. Though Cerulli expects mutual funds’ five-year compound annual growth rate to shrink two per cent, they would still command nearly US$19 trillion in 2026. Meanwhile, money in ETFs is projected to climb 9.5 per cent to US$11.3 trillion in that span, while separate accounts are seen rising 7.2 per cent to US$2.5 trillion.
Recommended from Editorial Wall Street chorus grows louder warning that 2023 will be ugly Three self-appraisal mantras to help investors get ready for 2023 David Rosenberg: Five reasons to buy energy stocks even when oil is going down “Direct indexing, once hailed as an ‘ETF killer’ that would revolutionize investing, has yet to make much of a dent,” Bloomberg Intelligence senior ETF analyst Eric Balchunas said in an October report. “Direct indexing could find some niche uses, but we don’t think it will surpass two-to-three-per-cent market share given it’s more complex, active and expensive than ETFs.”
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Article content To that point, Cerulli believes “mass-affluent and high-net-worth clients” are the largest addressable market for custom indexing, despite shops such as FMR LLC and Altruist Corp. offering services for accounts with balances less than US$10,000.
Franklin Templeton’s custom-indexing platform Canvas, for example, isn’t offered to retail investors, according to O’Shaughnessy Asset Management client portfolio specialist Jamie Catherwood. But Canvas has crossed US$3.5 billion in assets and 2,000 accounts since launching at the end of 2019, he said.
“Just from our experience, it’s growing very rapidly, and it’ll only continue to grow as technology and software evolves and price points become lower and fees fall,” Catherwood said on Bloomberg Television’s ETF IQ on Monday.
Bloomberg.com
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