RIA Talks India is an interview series where industry thinkers share their thoughts and perspectives on a variety of market trends and themes impacting indexing and passive investing in India.
Koel Ghosh, Business Head & CEO, Asia Index Pvt. Ltd., S&P Dow Jones Indices (S&P DJI) chatted with Suresh Sadagopan, Founder, Ladder7 Financial Advisories to get his take on using passive investing as a tool for risk management.
Koel: As an index provider, S&P Dow Jones Indices would like to better understand how financial advisors use products based on indices. Please tell us about passive products like ETFs and index funds that can be used in an advisor toolkit in India.
Suresh: As a financial advisor, the choice to include various products in a portfolio is dependent upon the investor’s risk appetite, reward expectation, liquidity and tenure needs, taxation, etc. While choosing products, advisors will also have to contend with managed products and passive ones. There are merits on both sides, in some subcategories at least.
In the large-cap space, most funds are not able to beat index returns, after adjusting for fees. In mid- and small-cap spaces, active funds seem to be able to beat passive funds more frequently. Hence, having some ETFs or passive funds may be helpful in the large-cap category. Also, in the smart beta (or factor) investing space, many ETFs (and passive funds) have started sprouting up, and they could be good candidates to consider in certain portfolios.
Koel: What are some of the strategies you use, and what are the potential benefits of including passive products in a portfolio?
Suresh: It is our belief that capturing the wisdom of the markets will eventually shine over stock-picking skills. However, it may take some time to mature in India before we get to a stage similar to what the U.S. is experiencing now.
We use ETFs and passive funds that track broad indices. We also use smart beta funds as a satellite strategy in our overall passive investing strategy. However, what we do differs from client to client.
The benefits of passive investing can be manifold. Fund manager risk is mitigated, and typically lower-cost investing is facilitated. Passive vehicles may also have advantages for long-term investment in that the underlying index reconstitution infuses dynamism for a portfolio of stocks. It can help to create a manageable portfolio that encompasses nearly the entire market.
Koel: How do you position your ETF use to clients?
Suresh: We prefer index funds for their liquidity, ease of trade, lack of impact costs, and buyback. We educate our clients about why passive investing may be a good strategy and why we are choosing that for them. We also explain all the typical benefits of the passive products, including potentially the lower cost, mitigation of fund manager risk, automatic alignment periodically to a well-constructed index, etc.