Episode 4 - ETFs, AI, and the Next Investment Frontier

Exchange-Traded Funds (ETFs) have transformed the way people invest—but how do they actually work, and why are they growing so fast? In this episode of EnRich Your Life Podcast, host Richard Leimgruber sits down with Arthur Nowak from Alger Investments to break down the power of ETFs, the role of AI in investing, and why active management still matters.

Key topics covered:

• What ETFs are and how they compare to mutual funds
• The benefits of ETFs, cost, tax efficiency, and diversification
• How AI is influencing the ETF space and shaping investment strategies
• Common ETF misconceptions and how to build a smarter portfolio

Are ETFs the right move for your investment strategy? Listen now and find out!

Want to know more about our guest?
Arthur Nowak, CFA® Vice President, Client Portfolio Manager - Alger Investments. For more information on Alger Investments, visit the official Alger Investments website.

Chapter Markers:

00:50 Tax Day Reminder and IRA Contributions

01:33 Guest Introduction: Arthur Nowak from Alger Investments

04:43 Understanding Exchange Traded Funds (ETFs)

13:09 The Rise of Active ETFs

14:00 AI and The Future of ETFs

18:33 ETFs in Investment Strategies

23:41 Conclusion and Final Thoughts

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Filmed and recorded at Studio on the Avenue/LMC Media
Mamaroneck, NY
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Produced and Edited by Vekterly
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Disclaimer: This podcast is for informational and educational purposes only and should not be considered as financial advice, a recommendation for any specific investment, strategy, or financial decision, or legal advice. By engaging with this material, you acknowledge and agree with its intended purpose. Any examples provided are hypothetical and for illustration purposes only. Neither Rich Leimgruber, the EnRich Your Life Podcast, nor its representatives are advising or suggesting any specific action or decision. Before making any financial, legal, or tax decisions, individuals should consult their own financial advisor, accountant, legal professional, or other qualified professional before making financial decisions. All opinions expressed are those of the host and guests and do not reflect the views of any affiliated financial institutions. The views shared may not be suitable for every individual or situation. Past performance is not indicative of future results, and all investments carry risk. Please note that any strategies discussed may not be suitable for all investors, and the appropriateness of any specific investment or strategy will depend on individual circumstances.

Chapters

• 0:00 Introduction to Enrich Your Life Podcast
• 0:50 Tax Day Reminder and IRA Contributions
• 1:33 Guest Introduction: Arthur Nowak from Alger Investments
• 4:43 Understanding Exchange Traded Funds (ETFs)
• 13:09 The Rise of Active ETFs
• 14:00 AI and The Future of ETFs
• 18:33 ETFs in Investment Strategies

Transcript

Episode 4 - ETFs, AI, and the Next Investment Frontier

[00:00:00] Intro: Welcome to enrich your life where financial wisdom meets everyday life hosted by Richard Leimgruber, a financial advisor with over 25 years of experience. This podcast brings you powerful insights to make smart choices and build your financial future. Get ready to dive into practical strategies to grow, protect, and shape your financial story one podcast at a time.

[00:00:26] Rich L: Welcome to enrich your life podcast. I'm your host, Richard Leimgruber. On this podcast, we like to talk to our listeners about different financial strategies that can help them, uh, Perform better in their financial life.

[00:00:40] And today I'm excited to bring on our guest to talk about somewhat of a new investment product called exchange traded funds or ETFs. Just one quick, uh, for you. We're coming up on a pretty fast approaching tax day, April 15th. I want to remind [00:01:00] everybody that you should be getting tax statements in from your employer, from your investment companies.

[00:01:05] Make sure that you turn around and send those to your tax advisor as soon as possible so they can start preparing your taxes. And don't forget you have up until April 15th. to make a contribution to either your traditional IRA or Roth IRA. If you are under the age of 50, you can put up to $7,000 in for 2024 and 50 and older up to $8,000

[00:01:27] And of course you should be speaking to your tax advisor about what you could potentially be doing. With me today is Arthur Nowak from Alger Investments, who is a capital portfolio manager.

[00:01:40] Arthur has been with Alger for almost 12 years, and prior to his client portfolio manager role, he worked on the data analytics team as a portfolio specialist. In addition to his current role, he has participated in the launch of six new exchange traded funds since 2021, acting in the capital markets role.

[00:01:59] Alger [00:02:00] Investments believes in investing in positive, dynamic change. During their 60 year history, Alger strives to deliver consistently superior investment results for their clients. Investment management is their only business, and Alger believes their independence enables them to remain true to their investment beliefs.

[00:02:19] Fred Alger launched their firm in 1964 with a research intensive strategy. That would eventually be known as growth investing by adhering to their discipline investment process. They have generated returns that have been recognized by national publications, industry research and most importantly, their clients.

[00:02:40] Well, with no further ado, thank you for joining me. Arthur it's great to see you and joining us here today. 

[00:02:45] Arthur N: Yeah. Thank you so much for having me. This is this is awesome. This isn't a very professional studio. You got here. 

[00:02:51] Rich L: Oh, thank you so much. Yeah. So LMC Media and Studio On The Avenue is has been a blessing in disguise for me to be able [00:03:00] to share these great pieces of philosophy.

[00:03:02] So, uh, you know, we like to start off with first and foremost, why did you get into the business? How did you get into the business? Give me a little bit of background about yourself. 

[00:03:10] Arthur N: Sure. Absolutely. I started in college. I was in, uh, I got my BA, um, you know, always had a math sided brain. So I started in accounting, but that was a little too, too stringent.

[00:03:24] So I went to the finance side of it. Um, and, uh, you know, I started out on, on the sales side, actually, I was an internal wholesaler for a little bit. But what really Interested me with the data side, the analytical side. So I started studying for my CFA, uh, past the CFA. Luckily enough, at Alger, you kind of You get what you you put into it, and I was able to move to our analytic side where I was, you know, on a day to day basis, looking at the portfolios, talking to the portfolio managers, the analyst team, [00:04:00] which really evolved into what I'm doing now, where I kind of work in between the investment team and our sales team, so I can, you know, Talk to clients about what's going on in the portfolio.

[00:04:12] What's going on in the the macro? What's going on in the economy in general? But as part of that I was tapped to work as, you know, kind of a capital market specialist, uh, while, while we were launching all these, these ETFs that we've launched over the past three years. 

[00:04:30] Rich L: That's exciting. Yeah. And, and, you know, our business every day, something's different, right? 

[00:04:34] I love the fact that I get to come to the office every day and have to catch up on all the new different things happening in the economy and the world and everything else that's going on.

[00:04:42] Arthur N: Always something new. 

[00:04:43] Rich L: Always something new. So, you know, in the past, Everybody's probably knows what a stock is, what a bond is, uh, we've heard of mutual funds

[00:04:51] there are alternative investments, whether it's private equity, private debt, 

[00:04:55] but something that has become very popular, uh, most recently is, are these [00:05:00] exchange traded funds? Sure. So can you give our listeners just a little bit of a brief explanation of what an ETF is? Sure, 

[00:05:06] Arthur N: sure. And I think, you know, exchange traded funds, it's right there in the name.

[00:05:10] It's a fund. So, you know, a, um, uh, a basket of securities, whether it be stocks, bonds, currencies, crypto, that trades on an exchange like a stock, you know, with your mutual funds, generally they trade once a day. With the ETFs, you can trade it throughout the day. So it's basically the ability to invest in either a passive vehicle or an actively managed vehicle where there's, you know, you do one investment, but you're investing in 50 other stocks or a hundred other stocks or 20 bonds, being diversified, being diversified 

[00:05:47] Rich L: and getting like what we call one ticket.

[00:05:49] So one ticket and you have 50 stocks, the S and P 500 has 503 stocks in it

[00:05:55] Arthur N: And the ETFs are designed to, to, you know, track the, the performance of the [00:06:00] underlying stocks. 

[00:06:01] Rich L: And so, so, you know, why did these come about? Yeah. What are some of the advantages of an ETF over something else?

[00:06:08] Arthur N: Yeah. So, so I mean, I, I, they came about in the early nineties. Okay. Uh, I think during that time, passive investing was becoming more and more. Popular. And so passive investing is just, you know, investing in, in, in the benchmark and, and following that, um, whether it be the s and p 500, the Russell 1000, there's, there's so many different benchmarks you could follow, but it's, it's not actively managed where there's a portfolio manager actually in there picking stocks.

[00:06:38] But, so in the early 1990s, um, passive investing was becoming more and more popular and people were investing more and more in it. But they would realize that they were kind of paying mutual fund fees on something that, you know, there's no active management. They shouldn't be paying, you know, manager fees on something that's just kind of sitting there [00:07:00] passively.

[00:07:01] So the, the first, uh, ETF launched was SPY in 1993, which, I mean, is a huge ETF now, uh, just follows the S& P 500. Um, But the idea behind it was that people wanted a vehicle to access passive investing, but they wanted daily liquidity and they wanted to not pay a huge fee on it. Um, so that's how ETFs came about.

[00:07:30] Rich L: And there's also some sort of a tax efficiency, right? Sure. With ETFs. Can we explain a little bit about that? 

[00:07:36] Arthur N: Yeah, that's, that's where we get a little bit more technical, especially on the active side. I think the passive side, it's pretty easy to understand, um, on the active side, you know, basically your, your big benefit with ETFs, uh, on the tax side is through redemptions.

[00:07:55] So I'll try to give a simple example. If you have a $1 million mutual fund [00:08:00] and somebody sells $100,000 of that mutual fund, that's going to, they're going to have to go in and actually sell the underlying stocks of that mutual fund, right? And that's going to create a lot of tax consequences for the other 900, 000 of people that are still holding on to that.

[00:08:20] That's how the mutual fund operates. How the ETF operates is that if you have a $1M, and somebody redeems, $100,000 instead of actually trading out trading the actual underlying stocks. What they'll do is called an in kind redemption where we just send the stocks out to our authorized participants. There's no Uh, tax, um, event in that scenario, I will say that, especially with active, you know, day to day trading.

[00:08:53] So if a portfolio manager trims a stock or adds to a stock, there's a possibility of creating tax [00:09:00] consequences in active ETFs. Um, but I think, you know, everybody, everybody. It is in a different scenario. Everybody has a different investment goal. Um, I think it's probably best for, for clients out there to talk to the financial advisor about it, to, to really understand it.

[00:09:16] Rich L: Great. Awesome. And so we already talked about what the differences are between ETFs and mutual funds. But when we talk about, I guess, the cost efficiency of it, um, mutual funds, depending on again, if they're active or, or if they're passive do have some costs associated with that, how do ETFs become a cheaper way of investing?

[00:09:40] Arthur N: So, I mean, If you look at ETS, I think a lot of it is passive where, you know, the expense ratio is going to be basis points, you know, it's going to be three to five basis points. It's so that 

[00:09:52] Rich L: just for our listeners, basis points is one tenth of 1%. Right. So, so if it's three basis points, it's [00:10:00] 0. 03.

[00:10:01] Arthur N: Right, right, right. So very, very cheap, very, very cheap. Um, And I think, uh, you know, but, but there are some structural advantages to ETFs that, that make them cheaper than mutual funds. You know, the mutual funds have to pay a transfer agency, there's transaction costs, and those all get passed through to the client.

[00:10:22] So, you know, the, the, the active, even if you're investing in a completely active strategy, you're generally going to be paying less in a mutual fund or in an ETF than you would be in a mutual fund. Great. 

[00:10:35] Rich L: And can you share some examples of how an ETF can be part of a broader or customized investment strategy?

[00:10:43] Arthur N: Yeah, yeah, absolutely. And I think the beauty of it is because they become so popular, uh, over the past, you know, five, 10 years is that the, the ETF landscape or the ecosystem is, is very diverse now. So I think anything that you [00:11:00] can do with a mutual fund. You can do with an ETF now, whether you want active, passive, um, if you want large cap growth, small cap growth, large blend, you know, across the entire spectrum of investing.

[00:11:13] I think you have the opportunity to express that. through an ETF. One, one area that I would say, um, probably isn't heavily covered is, you know, maybe some of the more niche areas like international small caps. I think they generally aren't going to have too many active ETFs in that area just because the liquidity issues of international small caps.

[00:11:36] So there's certain areas that that you might still need to go the traditional mutual fund route. But I think overall, You know, most of the goals that you want to achieve in a client's portfolio, you can do so by Investing in ETFs, whether you want to be passive or active, 

[00:11:53] Rich L: right? And so one of the things that I've noticed being in the business for 26 years is of late, we're [00:12:00] starting to see some type of demand for a certain investment.

[00:12:07] And all of a sudden. Alger comes up with an ETF for that demand, and we're starting to see more and more of that. We now have, I think there's six or seven ETFs specifically that trade Bitcoin. Yeah, you have one that is only on AI or artificial intelligence. So, you know, when it comes down to an example, what are some of the market developments or trends that are ETFs are taking advantage of and are providing some additional value to their consumers or to their clients.

[00:12:39] Arthur N: Yeah. I mean, I think, I think the major trend that we've seen over the last couple of years and, you know, I think it's surprising to a lot of investors, especially on clients that, you know, when they, when they watch CNBC or, or, or, you know, any, any of the financial networks. They're seeing [00:13:00] advertisements for advertisements for QQQ or SPY, which we already talked about, or a Vanguard passive ETF.

[00:13:09] You know, those are kind of the behemoths in the industry, but we've seen what we've seen over the past couple of years is that active managers are getting much more involved in this space. I think last year, you know, 75 75 percent plus years. That's it. Of the ETFs that were launched last year, we're active, um, and you know, again, I think clients think of it as this passive vehicle, a way to just kind of let it sit there and follow a benchmark.

[00:13:38] But, you know, Alger has been around for 60 years, and we've always been very active. We weren't going to enter this marketplace with. You know, a very passive vehicle. So we're coming to the table with active ETFs. Um, you mentioned the AI ETF. Um, the ticker on that is [00:14:00] ALAI. Um, and the idea behind that, you know, we kind of had this Chat GPT moment in 2022, and it seems like you know, it was released and everybody used it and they're like, wow, and it seems like that's what everybody's been talking about since then.

[00:14:14] But the thing that makes Alger a little bit different, I think, is the people that we have, the investment team, the research analysts, The portfolio manager on that product is Patrick Kelly. He's been at Alger since 1999. So almost 25 years now. He was our head tech analyst before becoming a portfolio manager.

[00:14:35] His co PM on a lot of the large cap strategies is Dr. Anka Crawford. She has a PhD in material sciences and engineering from Stanford. Uh, her first job was not in the financial world. It was in the tech world. She still has a number of patents in the semiconductor space. So when this chat GPT thing came out in 2022, it [00:15:00] was kind of old hat to us.

[00:15:00] We had already been studying it for over a decade. I think Pat Kelly put out the his first white paper in 2017 on AI. So it's something that we were already aware of and, um, so we thought it was a good idea to, you know, be able to offer clients the, the opportunity to invest just directly in, in that theme.

[00:15:25] So we came out with that product early last year. Um, it's trading, it's, it's live. 

[00:15:30] Rich L: Yeah. So, and I'm familiar with it. 

[00:15:33] One of the things that I just want to, you know, make sure that people understand is like, you would think an AI is all technology, right? Like the QQQs. Sure. But ALAI is not. The Alger Automation and Enablers Fund, right? It's it's it's a diverse portfolio of stocks that normally have to deal with companies that are actually producing AI, but also enabling it.

[00:15:55] Rich L: So So can you give me a little bit of a breakdown potentially of the [00:16:00] type of investments that are in that fund? 

[00:16:01] Arthur N: Yeah, absolutely. So yeah, I mean, to your point, you know, if you're if you're in passive and you're in QQQ, you know, you're you're holding the uh, pretty broad array of stocks.

[00:16:13] And what we've been saying for a long time is that innovation is really picking up in the U. S. And around the world, and it's creating winners and losers on a day to day basis. So we think it's important to have a research team and a portfolio manager. Kind of pulling the levers and finding those winners and avoiding those losers.

[00:16:36] Um, in terms of the the makeup of the product, you know, we think that AI is going to be something that touches every area of the economy. So if you're investing in QQQ, you're going to have access to all the semiconductors that you want. Um, but what you're going to miss out is, you know, maybe some industrials companies that are going to be You know, participating in the build out of all these data centers as the hyperscalers [00:17:00] like Microsoft and Amazon are putting billions of dollars into the ground, building out data centers.

[00:17:05] You know, somebody has to build the power and cooling systems for those data centers, 

[00:17:10] Rich L: transfer the electricity to those data centers and utilities.

[00:17:14] Arthur N: Absolutely. Utilities is another piece that we've we've been investing in. You know, I think for 20 years, you know, considering we're a growth shop, Utilities weren't something that, that we've, we've really been into, um, but with, with this advent of AI, you know, I think currently data centers take up about 3 percent of the overall, um, U. S. electricity consumption. We think by 2030, that's going to be 10%. So there's going to be a significant demand for, uh, electricity, um, which will probably increase costs. And we think that utility there, there are some players in the utility space that are going to benefit greatly from that. So I think, you know, if you're investing in a passive strategy in the AI space, you know, great, you're probably going to get a lot of [00:18:00] access to, you know, Amazon, Microsoft, NVIDIA, um, Intel, things like that.

[00:18:07] But if you want to be able to. participate in both the enablers as well as the adopters of AI. Um, you know, I think that again, having an active manager who's, you know, actually making decisions and finding companies that are going to be, you know, the next Nvidia or the next AppLovin, um, we think that's really important in that space.

[00:18:31] Rich L: Yeah. That's great. Good. Good. Um, is there any other kind of common misconceptions about ETFs that you can kind of put to bed here? 

[00:18:42] Arthur N: Yeah. Yeah. I mean, and I think we covered it a little bit. But again, I think that, you know, they started out as passive vehicles. They they were pretty much passive for a long time, you know, but over the last 5 to 10 years, the active side of it has exploded, which is where [00:19:00] Alger is participating again.

[00:19:01] We've been equity growth growth equity specialists for 60 years. We're not going to put up passive vehicles. We do have a factor based ETF that is so focused solely on innovation, which is led by our Director of Quant, Greg Adams, as well as our, um, Director of Market, uh, Research, Brad Newman. Um, the ticker on that is INVN.

[00:19:27] But in general, you know, Alger is active, um, so we're gonna be launching active products. Um, and again, you know, last, last year, there were like around a thousand new ETF launches, 75 percent of those were active ETF. So it's a space that's growing. I think about 300 billion came into that space last year, which is a new record.

[00:19:52] Incredible. Yeah. So, you know, and I think, If we look at it for the longest time, you know, mutual funds kind of had the [00:20:00] mantle of being dominant in the space, but as we go along, we just see money flowing into ETFs more and more. And I think it's because of some of the advantages that we touched on, you know, daily liquidity, lower costs, and some tax advantages.

[00:20:16] Rich L: Right, right. And for me as a financial advisor, you know, I'm considered a fiduciary. 

[00:20:21] Arthur N: Sure. 

[00:20:21] Rich L: And part of that is always doing what's in my client's best interest. And part of that is saving money on fees, right? So if I can, if I can get an investment for a client, uh, buying the same types of, of, of stocks or, or companies, but save them a half a percent on their investments, I'm required to do that.

[00:20:40] Sure. Right. So, and I think obviously there's a yin to the yang. There's, there, there are some ETFs where, yeah, you're buying the S and P 500, but you might pay a little bit more than what in an ETF, like the Alger AI ALAI but you're getting active management and that's what you're paying that extra, a little bit more money for.

[00:20:58] So we are allowed to, you know, [00:21:00] look at other investments. And one of the things I'll say is that. comments about more and more ETFs coming on the line. I've noticed a lot of the old mutual fund families who've been around forever, all of a sudden are now participating in the ETF markets because they see the trend.

[00:21:14] So will we ever see, uh, a retrenchment of mutual funds and them going away? Probably not. Right. But. But I think ETFs definitely has an important place in somebody's investment portfolio. And I think it, it's something that should be considered. And I just want our listeners to understand that ETFs can be, a part of your portfolio that you're not taking all the risk of the market, right?

[00:21:37] So there's also ETFs out there that you can basically buy, like a moderate portfolio ETF, right? So it could be a mixture of stocks and bonds within an ETF as well. Absolutely. That being said, is there anything else that you'd like to add to this conversation that you think my listeners might be able to benefit from?

[00:21:55] Arthur N: Yeah, I would think that, you know, end clients and advisors in general [00:22:00] should consider ETFs for, for any portfolio. I think they can, they can really add they can generate alpha if you're considering the, the amount of ETFs that are out there. Alger is, we currently have six, ETFs.

[00:22:15] Uh, we have two large cap ETFs. Uh, we have two mid-cap ETFs, and then we have, the INVN, which is the innovation focus factor based ETF. And then we have, the AI ETF, ALAI and, um, you know, I do think that Uh, again, I think people really think of them as passive vehicles, but you can generate alpha using ETFs.

[00:22:40] If you're just passively investing, you're missing out on on a significant amount of alpha there, 

[00:22:47] Rich L: right? 

[00:22:47] Arthur N: So we think, you know, if a client's overall portfolio, you know, you're going to have your core, you're going to have your value, you're going to have your growth.

[00:22:57] Um, and we think that ETF can at [00:23:00] alpha on on not only can they be used to be, you know, a core, maybe passive position, but on the satellite, right? Side we can probably add alpha Using active ETFs, 

[00:23:12] Rich L: right? Yeah. And I use ETFs as well. So for the AI, right? And but also gold, right? Bitcoin is another one that you could potentially buy some of your clients portfolio with.

[00:23:24] So there are sector plays when it comes to, different types of ETFs as well. And although your shop might not have all of those different sector plays, you're actively working on adding to your, portfolio of ETFs, which is great. 

[00:23:37] So kudos to you guys and to Alger for, for doing that for us. Well, thank you so much. I, I'd love to have you on again. Sure. Uh, obviously I, I love to provide value.

[00:23:46] Rich L: If you have any questions or you need any additional information, please feel free to reach out to me. Reach out to your financial advisor. Ask him those important questions. What kind of ETFs do I have in my portfolio? And [00:24:00] make sure that you're, using ETFs That makes sense, from your own, asset allocation approach or your risk tolerance.

[00:24:08] Before I finish up here, I want to say thank you again to LMC Media, LMC Media and their Studio On The Avenue is enabling me to be able to share this information with you. And I just want to say thank you to them. I want to say thank you to Vekterly Studios who is helping me produce all this.

[00:24:27] And please don't forget to like, share, if you feel like the information that you're hearing today, please share it with your friends. You can visit, my website at enrichlifepodcast.com. You can find me on all of the major, podcast, platforms as well as YouTube. And I look forward to seeing you the next time and, have a great day.