Yahoo Finance Presents: Dave Nadig

Yahoo Finance's Alexis Christoforous interviewed Dave Nadig, CIO and Director of Research at ETF Trends. They discussed the record inflows into ETFs versus mutual funds, and some of the best investing strategies for 2021 and beyond.

Video Transcript

- Yahoo Finance's Alexis Christoforous recently spoke with David Nadig, CIO and director of research for ETF Trends for the latest episode of "Yahoo Finance Presents," presented by T. Rowe Price. They spoke about investment strategy heading into 2021 and the record ETF flow of 2020. Take a listen.

DAVE NADIG: We're sitting here a couple of days before the actual end of the year, and it's looking like an all-time record. We'll probably close the year at something like $500 billion-- half a trillion-- inflows into ETFs. It's been a year of records. We've had record flows into active ETFs, record flows into ESG ETFs, record flows into fixed income ETFs. There are stories behind all of these. But overall, ETFs really solved problems for all kinds of investors with all kinds of problems. And that's why we've seen flows like this, and I expect it to continue.

ALEXIS CHRISTOFOROUS: I would imagine those flows came at the expense of mutual funds. Can you tell us why more and more investors, especially younger investors, seem to be choosing ETFs over mutual funds?

DAVE NADIG: Yeah. I mean, there are a couple of reasons. You know, I think a big one we have to acknowledge is that the vast majority, certainly of equity mutual funds, are actively managed. And historically, active management hasn't worked as a class. It doesn't mean that no active manager ever outperforms. Obviously, some do. Some ETFs outperform when they're actively managed.

But as a class, when we have a big hiccup in the market like we had in March and April, we tend to see the same pattern. Actively managed mutual funds get sold. Often, they're pretty expensive, and they haven't performed. That money sits in money market funds for a while. And when it comes back into the market, it comes back into ETFs.

And it comes back into ETFs for a couple of reasons. First and foremost, most ETFs are passively managed, and therefore, are much less expensive. You can get access to total market equity now for 3, 4, 5, 6 basis points. That's incredibly cheap, versus the 80 or 90 basis points an active manager will often charge. And that cost advantage alone often drives some investors over to the ETF side of the fence.

The other thing is ETFs are more tax efficient. Very few ETFs pay capital gains out every year. That means that your experience, as an investor, is also your tax experience as an investor. You get what you get when you buy it, when you sell it. You don't have to worry about the ongoing drag of having to deal with capital gains month after month, year after year.

ALEXIS CHRISTOFOROUS: Well, certainly, 2020 is going to be a tough act to follow for investors with returns like these-- double-digit returns for the major indexes. You ticked off a couple of themes you saw this year, investing in particular in ESG and fixed income. What do you see as the big overall investing themes of 2021?

DAVE NADIG: Yeah, so there are a couple of key ones. ESG is definitely a big one. We saw $30 billion flow into ETFs targeting ESG this year. Many of them have performed incredibly well, particularly those that are targeting things like clean energy. Some of the clean energy ETFs have been up over 100% this year, just some of the highest performing ETFs in the world.

I don't expect that performance to continue next year, but I don't expect the desire for expressing your values in investing to go away. That is something that Gen X and Millennials have really voted with their wallets on, and it doesn't seem to be going away. So I think ESG will continue to be a big theme.

I also think that alternatives to just cheap beta will continue to be really attractive. This was a big year for active managers. A lot of the heat went towards things like Kathy Woods ARKK, ARK Invest's sort of key product there, which is up 150%-plus this year, so it's understandable why people are paying attention to it. You know, pulled in billions and billions of dollars.

That's going to both, I think, generate a lot of copycats, a lot of active managers coming into the space. But it also has sort of opened up the window for investors to look at alternatives to just buying cheap beta. Whether that's good for investors or not, whether those folks will perform, we'll have to see.

ALEXIS CHRISTOFOROUS: With the vaccine now rolling out, 2021 still very uncertain for Wall Street and for Main Street. But there is some light at the end of the tunnel. Expectations for earnings and GDP look pretty good heading into the new year. What are some of your best near-term trading strategies that you can share with investors today?

DAVE NADIG: Well, for the most part, investors were really rewarded for sticking to their knitting this year. Probably the biggest opportunity most investors had to mess up was in March and April. If you were a normal investor with sort of a balanced portfolio, not just sort of barbelling out into Tesla stock, but investing in a normal asset allocation portfolio, when you came to the end of March and you had to rebalance, it was a bit of a gut check because you had to be in the position to sell your bond funds and buy equities precisely when that was really uncomfortable.

But if you did it, you absolutely crushed it. And a lot of advisors and a lot of investors who did that were very well rewarded. I think that's still the watchword for '21. I think there's still an opportunity for a lot of volatility. There's still a lot of unknowns coming into '21. And I think sticking to a plan is probably the most important thing. Don't go chasing the latest hot performing thing or the latest take on how the economy is going to respond to a particular piece of legislation. Focus on your core objectives for the long term, and I think you'll do well.

That being said, I still think we're in a bit of a K-shaped recovery here. And that's what we've seen. Like, the economy is going to come out of this fundamentally differently-- fundamentally different. And I don't think it's irrational to think about your portfolio differently, as well. It doesn't necessarily mean dumping all your energy stocks and never owning a transport company again. But I think it does mean rethinking whether or not your core index exposure is what you thought it was.

ALEXIS CHRISTOFOROUS: I think you hit it, Dave, when you said, volatility is sort of going to be the word of the day on Wall Street into 2021. How can an investor maintain a long-term view during market volatility and invest with confidence?

DAVE NADIG: Yeah. You know, the short answer is, there have actually been a lot of product launches designed to exactly answer that problem. Probably the earliest ones were a set of products from Innovator. They're so-called defined outcome products that take equity returns and they sort of have bumper cars on there or bumpers on them so that you give up a little bit of your potential upside, but you get yourself a bunch of insurance on the downside. Sort of smooths out your ride a little bit.

And that sort of fostered a huge rash of product launches in the last couple of years, many of which have done very well for investors. I guess I'd highlight one right now, which is Simplify's SPYC, which is conveniently-- you can call spicy. And what that does is it takes core equity exposure and it actually enhances you in both directions.

Should we melt up or melt down, you'll actually profit. You'll give up a little bit of your core index exposure over time. So instead of being up, say, 14% on a year like this, you might only be up 12%. But what you're doing is buying yourself option value on those tail experiences, whether we melt up and have a 35% crazy up year or whether we have another big pullback.

ALEXIS CHRISTOFOROUS: All right. We're going to leave it there. Great insights, as always. Dave Nadig, chief investment officer and director of research at ETF Trends, happy holidays.

DAVE NADIG: Thanks. Happy holidays to you.