Should financial advisors and their clients follow the “smart money?”

Recently, Ivy League schools including Harvard University and Brown University have disclosed that they are among the numerous institutional investors with allocations to bitcoin ETFs. That trend is further legitimizing crypto as an asset class and may have some individual investors wondering if they, too, should bank on bitcoin. Financial advisors have different stances on whether (and how much) clients should allocate to the highly volatile category, but they agree that it should be approached with caution. For example, most of AE Advisors’ clients have 5% to 10% allocated to Bitcoin via spot-price ETFs or digital custodians, president Mike Casey said.

But Casey, who said he was among the first CFPs to recommend bitcoin allocations as far back as 2019, added, “please keep in mind that bitcoin has substantially more market cap and mainstream adoption than the other crypto tokens, which are still generally speculative in nature.”

Tokens of Advice

Retail demand is obviously there for spot crypto products like BlackRock’s iShares Bitcoin Trust ETFs (IBIT), which is approaching $90 billion in assets. But the extent to which advisors use certain products is influenced in part by their inclusion in model portfolios — and spot crypto ETFs are almost nonexistent there. “BlackRock is really the only one we’ve seen going forward with adding it into its model portfolios,” said Cindy Zarker, relationship manager at Fuse Research Network. “All of this is changing. You have a lot of firms that have various digital-asset offerings, and they’re promoting those offerings and how they can benefit a portfolio.”

There are signs that digital assets are maturing, said Clark Randall, director of financial planning at Creekmur Wealth Advisors. Those include BlackRock’s launch of IBIT and Congressional passage last month of the Genius Act, he said. “In addition, research has shown that including an allocation of up to 7% in Bitcoin can improve the risk-adjusted return of a diversified investment portfolio.”

Still, if more advisors are bullish on Bitcoin, it’s a new phenomenon. Data from a survey last year published by Fuse show:

• Fewer than 20% of advisors said they would allocate a small portion of client assets to crypto.
• Fewer than 5% would include a crypto ETF allocation for clients.

Time for Class: “Institutional interest from endowments and other large investors lends credibility to the ETF structure because it is regulated, custodied and easy to report for taxes,” said Jared Gagne, private wealth manager at Claro Advisors. “It does not make crypto less volatile. In wealth management, that distinction matters.”

Institutions have more time to weather that volatility than individuals, and allocations for clients should be satellite holdings at most, said Patrick Huey, owner of Victory Independent Planning. “The average individual investor can’t invest with a truly infinite time horizon and is more exposed to urgent liquidity needs, emotional stress and the risk that riding out a 70% crypto correction isn’t just uncomfortable, but catastrophic to their plans.”

“Mind the gap” isn’t just a safety warning for London tube travelers.

Morningstar’s latest annual report of the same name, which analyzes the gap between aggregate returns for mutual and exchange-trade funds and the returns on the average dollar invested in them, found an average shortfall of 1.2% over the decade ending in December 2024. That’s equivalent to about 15% of the funds’ total aggregate returns over 10 years, and slightly higher than the gap in the decade through December 2023, according to the report, which was released this month. While overall gaps in studies over the past five years have consistently been larger than 1%, the performance of individual funds varies based on characteristics like cash flow volatility, which was tracked for the first time this year as a measure of trading activity. “The more often investors traded, the wider the gap was between the return of the average dollar and the return of the fund they were investing in,” said Jeff Ptak, the report’s author. “[Volatility] doesn’t make a bad fund, but investors in those funds have less returns.”

Filling in the Gaps

ETFs had wider gaps than mutual funds, especially international equity and sector equity funds, according to the report. Sector equity funds saw the greatest gap between the average dollar invested and aggregate fund returns, while investors in allocation funds captured the most returns, with a gap of just 0.2%. The data also showed that the more a fund diverged from its index, the bigger the returns gap became, although it’s not immediately clear why, Ptak said. “The challenge of measuring a fund that goes its own way is that it doesn’t follow the herd,” he added. “Other funds can stick out in a good way. Their returns can appear above the benchmark’s return, but [investors] might be purchasing it with hindsight at an inopportune time.” The findings also point to all-in-one funds having the advantage over narrower, standalone or building-block style strategies, he said.

Other notable gap findings in the report include:

• The average dollar invested in taxable bonds earned a 1.2% return, a percentage point less than the funds’ aggregate return of 2.2%.
• Investors in muni bonds earned 1.0% on the average dollar, less than half of the funds’ total returns of 2.1%.

Context Clues. The gap can also be a matter of context and circumstances. Retirement plans, for example, are conducive to capturing more returns because investors aren’t making opportunistic changes but simply adding money on a regular basis. And allocation funds — which captured the most returns — are often found in retirement plans. “Our understanding of what causes gaps has evolved over time. Previously, we had referred to this as a behavior gap, but as we collected more data, it became clear that the story is nuanced,” Ptak said. “Behavior is a factor, but there’s more to it than that.”

The company synonymous with passive investing, Vanguard, is taking a big step in the active ETF market.

The index investing giant filed with the Securities and Exchange Commission on Monday for approval of a trio of exchange-traded funds subadvised by Wellington Management. The products would be distinct from mutual funds in Vanguard’s line, but the strategies are similar. While the company has a range of active ETFs that follow rules-based investing, the forthcoming Wellington funds would be Vanguard’s first active ETFs run by stockpickers.

“Vanguard is a little late to the game when it comes to active ETFs (with human stock pickers). Fidelity, T. Rowe, American Funds … They’ve all moved in this direction already,” said Jeff DeMaso, editor of The Independent Vanguard Advisor. “What is a little surprising is that Vanguard launched these funds when it seems likely the SEC will grant approval for dual mutual fund-ETF share classes for active funds.”

Cost Isn’t Everything

Vanguard built its business on its low-cost approach to owning the market rather than trying to pick a handful of winning stocks. Of course, it has also become a big presence in active management, and its existing lineup of active ETFs is growing quickly, currently representing about $15 billion in assets, per Morningstar. The forthcoming ETFs, which could launch in the fourth quarter of 2025, are the Vanguard Wellington Dividend Growth Active (VDIG), US Growth Active (VUSG) and US Value Active (VUSV) ETFs.

Fees for the ETFs vary from comparable Vanguard mutual funds, DeMaso noted:

• The Dividend Growth ETF will charge 40 basis points, compared with 22 for Investor shares of the corresponding mutual fund.
• The US Growth ETF will charge 35 bps, compared with 32 bps for Investor shares and 22 bps for Admiral shares.
• The US Value ETF will charge 30 bps, compared with 36 bps for Investor shares and 26 bps for Admiral shares.

The Ship Hasn’t Sailed, Yet. While the ETFs aren’t necessarily cheaper than similar mutual funds, as is especially the case with VDIG, “taxable investors will still probably prefer the ETF due to the (expected) lack of capital gain distributions,” DeMaso said.