Despite being called the way of the future, the actively managed exchange-traded fund industry (so far) has fallen a bit flat. High expenses, poor returns and a lack of transparency have plagued many funds in the space, and recently, closures of actively managed funds have recently begun to pick up.
That is, unless you’re Pacific Investment Management — more commonly known as PIMCO.
Managed by “Bond King” Bill Gross, the PIMCO Total Return ETF (BOND) has racked up an impressive $5.2 billion in its roughly 15 months since inception, and the fund has outperformed many other broad bond index ETFs during that time. Now, following a similar formula that brought BOND success, PIMCO has recently finished the necessary paperwork and received regulatory approval to bring three more active ETFs to market.
Frankly, I have no doubt that these three funds will make just as much of an impact on portfolios as BOND did.
A Mirror Image, But Better
The key to PIMCO’s overall success has been the strength of its fund managers, and BOND is no exception. The ETF basically is a version of Bill Gross’ massive $280 Billion PIMCO Total Return Mutual Fund (PTTAX), with the same stated objectives and goals (but minus the high expense ratio and potential sales loads).
However, the ETF’s smaller size has made it the top performer since debuting.
From its February 2012 inception through the beginning of May, BOND returned a cumulative 14.2% — much better than the 8.5% gain for the mutual fund. Much of that difference in returns has to do with the fund sizes. Even with $5 billion-plus in assets, the number of holdings is relatively small. BOND currently has 1,046 holdings, compared to the approximately 19,000 holdings in the Total Return mutual fund.
Basically, the smaller fund size has enabled Gross to be more nimble and cherry-pick the best opportunities in the bond space. It’s much easier to move in and out of positions — which BOND and PTTAX do, as they are “total return”-style investments — when your position size is smaller. PTTAX has around $113 billion in U.S. Treasury bonds, for goodness sake. Try exiting that completely at the drop of a hat.
All in all, that size difference has made a significant impact on returns. Which brings us to the three new ETFs.
Three Popular Funds
Just as it did with BOND, PIMCO is launching ETF versions of three different popular mutual funds within its lineup, also co-managed by Gross. Like BOND, each new ETF will mirror the strategy of an existing mutual fund that bears a similar name:
- PIMCO Real Return Fund (PRTNX)
- PIMCO Low-Duration Fund (PTLAX)
- PIMCO Diversified Income Fund (PDVAX)
Also similar to Total Return, these three mutual funds are all quite large. Both PRTNX and PTLAX have roughly $25 billion in assets each, while PDVAX clocks in around $8 billion. Their smaller ETF sizes should help Gross — along with co-managers Curtis Mewbourne on Diversified Income, Marc Seidner on Low Duration and Mihir Worah on Real Return — post great results.
Already, each fund is a standout in its respective Morningstar category, with top quartile rankings over the long haul. The funds also are pretty timely investor choices, as they are all well-positioned for the eventual rise in interest rates as well as potential higher inflation. Based on their open-end mutual fund counterparts, we can expect that …
- The PIMCO Diversified Income ETF will be a global multi-sector bond fund and serve as an income-oriented complement to traditional core bond holdings. It primarily focuses its attention to the investment-grade corporate, high-yield and emerging-market bond sectors.
- The PIMCO Real Return ETF seeks to offer shareholders a meaningful return above the rate of inflation. It will accomplish these goals by investing in Treasury Inflation Protected Securities, or TIPS. Worah also manages PIMCO’s new global inflation ETF, Global Advantage Inflation-Linked Bond ETF (ILB).
- The PIMCO Low-Duration ETF will own primarily investment-grade debt, but will have a portfolio duration of one to three years depending on asset managers’ forecast for interest rates. Duration measures a security’s sensitivity to interest-rate changes. As such, the fund will be a powerful tool when rates eventually rise.
While no official launch date has been given, I expect these three ETFs will go live pretty soon, then quickly catch on with investors. PIMCO seems to have found the successful recipe for launching sustainable actively managed ETFs.
It will be interesting to see whether other big name fund managers — like Fidelity or T. Rowe Price (TROW) — follow Gross’s lead.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.