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  • 7/23/2025
In the latest episode of ETF spotlight, Lance McGray, Managing Director, Head of ETF Product at Advisor Asset Management, explains how the average investor can benefit from a more deliberate approach to diversification.
Transcript
00:00I am joined by Lance McRae, Managing Director, Head of ETF Product and Advisors Asset Management.
00:06Lance, thanks so much for joining us.
00:07Thanks so much for having me.
00:09So Lance, let's dig in. You have three key guiding principles for investors. What are they?
00:15Yeah, I would say, you know, thinking about 2025, going into this year, the CIO team at Advisors Asset Management has really been talking about the three Ds.
00:24The three Ds is really what we've been using to help financial advisors and investors sort of navigate these very challenging times that we're experiencing.
00:35The first D would be diversification. You know, I think many folks think about diversification.
00:41They talk about traditional stocks and bonds, 60-40. We take it a little deeper.
00:46We're looking at more specifically, you know, sectors. Where are there themes that you can capitalize on?
00:51Where should you be on the yield curve? Take it much deeper in terms of the diversification.
00:57And we can talk about that a little later in the segment.
01:00The second D is essentially dividends and income.
01:04You know, at AAM, we really are an income shop.
01:07And I think a lot of investors are sort of finding comfort in dividend-paying stocks and actually moving out of cash and replacing it with coupons right now in 2025.
01:16And then the last one is deliberate. You know, in this type of environment that has so much uncertainty, it's really important to be deliberate, whether it's with active managers or rules-based strategies that may have a higher active share than most beta products.
01:31But it comes down to diversification, being deliberate, and finding dividends and coupons.
01:38So let's start with diversification then. How should investors be thinking about diversifying their portfolios right now?
01:45And what are you actually seeing in terms of how they're doing it?
01:48Well, I think there's a few things that we want to talk about when we're talking about diversification.
01:52Let's start with the U.S. equity market, right?
01:54Right. Many investors are investing in the Qs or, you know, the S&P 500.
02:00What we're hearing, and this has been the case for quite some time, is that there is a very high level of concentration in the top portion of those names, specifically the MAG-7.
02:10Some of the MAG-7.
02:11Some of the MAG-7.
02:12But overall, the performance has been fantastic.
02:15Obviously, we're reaching all-time highs based off of those few names because their weighting is so high.
02:21It could be 30% to 40% of an allocation of a traditional beta product.
02:26But that's something that investors are starting to become worried about, right?
02:31And that's one thing that we're focusing on.
02:33And there's opportunities out there where you can outperform the market, the S&P 500, while without taking on that, you know, 30% to 40% exposure in seven names.
02:44For example, you know, at AAM, we have a ticker TRFM, which is the AAM Transformers ETF.
02:50You know, we don't hold 500 names.
02:52It's a product that's a rules-based product that focuses on R&D and sales and analyst ratings.
02:59And this product has outperformed the S&P 500 with only about 7, 7.5% MAG-7 exposure.
03:06So there are opportunities out there.
03:08We're looking at smaller mid-cap companies, those companies that really have the ability to grow, right?
03:14One thing that we always say is that the U.S. does not have a monopoly on really good ideas.
03:20And by us looking at R&D specifically with the Transformers ETF, we're able to capture a lot of the secular trends that we're seeing in the marketplace without having that MAG-7 exposure.
03:32What are some of the biggest holdings in your Transformers ETF if they aren't MAG-7?
03:36Well, they are some of our largest holdings.
03:39But what happens is some of our largest holdings actually only has a 1% weighting in the overall portfolio.
03:46So what you get is a product that's much more diversified, right, across the entire suite of securities or companies that are growing, that are being transformative, that are transforming the world around us.
04:00Okay.
04:00And then when it comes to dividends and income, one might think of those as more of the kind of the safety plays.
04:07Absolutely.
04:08But I think most people, you know, specifically over the last 10 years, they tend to forget historically how important dividends have really been for equity investors.
04:17You know, for example, if you have a crystal ball and you can essentially remove yourself from those companies that cut or can stop paying their dividends, you can actually outperform the S&P 500s, you know, going back 60 years.
04:33So, yes, there is some aspect of comfort.
04:36Yes, there is some aspect of quality.
04:38But when you start reinvesting these dividends, when you start compounding those dividends over time, it can be a real driver for outperformance.
04:45And we expect the market to come back to that, right?
04:48We expect to move away from the MAG-7s and find some growth in dividends, some quality stocks going forward.
04:57Okay.
04:58And I do want to dig into that in just a second.
05:00But just to add to that third point, being deliberate, can you give an example of how investors can be deliberate in the strategies that they choose?
05:08Absolutely.
05:09So, you know, for the last decade, most people have been, you know, putting their money in the S&P 500, an index-based product, or an active manager that might be deemed a closet indexer, closet manager.
05:21At Advisors as a management, we believe that there is value in having an active manager that goes essentially against the grain, if you will, and provides exposure that you won't get otherwise in traditional beta products.
05:36So it comes down to finding an active manager that has a proven track record in a specific strategy, whether it's U.S. large cap, U.S. growth, small cap.
05:45It could be in the fixed income space, in a low-duration aspect, or even high-yield space as well.
05:50So it's really, really important in this environment to find a manager that is well-proven, that has a solid track record, and can help navigate these challenging market environments.
06:01What's your read on active versus passive ETFs?
06:04Are you finding that investors want to go beyond index ETFs and get a bit more active in their approach?
06:11Absolutely.
06:12And 2025 is shaping up to be sort of the pinnacle year for that.
06:17You know, for the last 20 or so years, the majority of the assets and the majority of the products in the marketplace have really been beta products, right?
06:25We're talking about, you know, going back to the early 2000s, we're talking about the ETF wrapper, right?
06:30Which is rather new.
06:32People didn't understand what it was.
06:33So it's like a mutual fund, but it trades on an exchange.
06:37What are these market makers and liquidity providers and lead market makers?
06:42And how do we execute?
06:44And there's a primary market and a secondary market.
06:46These are all things that we are sort of growing past, if you will.
06:50And now it's coming down to the strategy.
06:52So you mentioned a great point.
06:54And just last month, we saw an interesting stat that I find still, to this day, very hard to believe is that as of last month, there's more active ETFs in the marketplace than there are rules-based strategies.
07:07And that is a complete 360 change in terms of what we've seen over the last 10 to 20 years.
07:15What does that mean for the everyday investor, though?
07:17What that really means is it's a great thing, right?
07:21You take a very user-friendly, tax-efficient, transparent ETF wrapper, and now you're opening it up to a tremendous amount of strategies that have otherwise been in the market through other wrappers,
07:37whether it be a unit investment trust or SMA or a mutual fund.
07:41And as you see more traditional mutual fund and asset managers enter the ETF space, it means one thing, and it means that there's a lot of optionality for shareholders, for end users of ETFs to gain the exposure that they're looking for, which is a great thing.
07:56Okay.
07:57And you mentioned the broadening out that you're expecting to see in the market as we are in the back half of the year.
08:03So I'm curious just what you're actually seeing in terms of ETF and market trends, the inflows, outflows, and where the money's going that makes you expect that broadening out?
08:15But also, are you getting any signs that investors are turning cautious with the market near record highs or at record highs?
08:22Any signs that investors are too confident?
08:25I think there's a lot in there, right?
08:28When we look at flows and we look at, as an ETF product team, we look at flows every single day.
08:32We're looking at quarterly flows, weekday flows, year-to-date flows.
08:36And what we can see is through the first six months of this year, we're on pace, the ETF industry is on pace to set a new record, which seems to be happening almost every single year.
08:45One of the reasons that is, is because, as we mentioned, more and more managers are coming to the market with their active strategies, right?
08:53So when you think about the 32-plus trillion-dollar mutual fund market, we're going to see more 351 conversions of SMAs and mutual funds.
09:04We're going to see more clone products come into the ETF landscape.
09:08So we're going to continue to see those flows migrate from what some may say is a less superior wrapper than the ETF wrapper into the ETF itself.
09:21But outside of that, you know, we are seeing a lot of investors starting to take pause.
09:25We're at all-time highs in the U.S. equity market.
09:28But another thing that our CIO team continues to stress is, it's about time in the market, not timing the market.
09:35And a perfect example of that is when you look at forward-looking returns, when we reach new highs, believe it or not, on the one-year basis, three-year, five-year basis, going forward, the forward-looking returns, investing at all-time highs, is actually higher than it would be if you invested at any other time.
09:55So again, it comes down to time in the market, not timing the market.
09:58Okay. And just finally, if I'm just an everyday investor listening to this, hearing about all of these ETFs on the market, knowing that the market's at record highs, how do you help me cut through the noise and figure out where I actually really want to be investing my money?
10:13Absolutely.
10:14And the great thing about end users or investors and the ETF wrapper itself is there is a tremendous amount of resources.
10:22For example, you can go to the AAM website, sign up for our newsletters, get a tremendous amount of content collateral, which, you know, Cliff Corso, who heads up our CIO team, who is our president and CIO,
10:35he does a fantastic job of breaking it down, making it digestible, and making it so that investors and financial advisors can implement the strategies and the ideas that we're bringing to market.
10:47So the content is out there. Just be on the lookout for it.
10:50All right, Lance, thanks so much. Really appreciate it.
10:52Thanks for having me.
10:53Great. That is Lance McRae, Managing Director, Head of ETF Product and Advisors Asset Management.

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