Will This Start-up Kill the ETF Revolution?


The rise of the exchange-traded fund in the past decade has proven how much investors want to have hands-on control over their portfolios. Discontented with mutual funds that left you without any ability to buy and sell during the course of a trading day, investors have turned ETFs into a trillion-dollar industry.

But now, a new alternative to exchange-traded funds may give investors more of what they're looking for. A new start-up company is looking to bypass the management fees that ETFs charge, instead giving you direct access to baskets of stocks for a single inexpensive commission -- and letting you tailor the portfolio to your own particular needs.

Building a portfolio on a theme
The start-up is called Motif Investing, and it's trying to help make it easier for you to use common sense to invest. The way it works is pretty simple: On the Motif website, you'll find dozens of different investing themes or "motifs," each of which includes a portfolio of up to 30 individual stocks that are related to that overall theme.

For instance, as of yesterday, the top-returning motif over the past year was named "Discount Nation." The trend that this motif tries to capture is one that investors have seen play out for years: As the recession took hold and the financial crisis smacked shoppers in the wallet, discount retailers thrived. Wal-Mart (NYS: WMT) , which founded itself on its low-price mantra, was obviously one of the big winners of the recession. But even the discount retail giant saw competition from below, as deeper-discounters Dollar Tree (NAS: DLTR) and Family Dollar rose to popularity and earned substantial profits.

To invest in this or any other theme, Motif lets you execute buy or sell transactions for an entire basket of stocks for a single commission of $9.95. That's clearly a lot cheaper than you'd pay to buy individual stocks separately, and unlike some past companies that offered similar services, trades happen in real time -- meaning that you're not stuck with mutual-fund-like response times.

Total flexibility
But the real value of Motif is its flexibility. With an ETF, you're stuck with whatever stocks the manager chooses to buy, often because the index it tracks includes them. Even if you don't like a particular stock a given ETF holds, your only choice is to buy that ETF or not.

Motif, on the other hand, lets you have control of your portfolio. Don't like a stock in the motif? You can cut it out. Want to add another? No problem. Moreover, if you want to dig into the details and change the particular weightings within a motif to buy more of some stocks and less of others, Motif gives you complete flexibility to do so.

There's also a social-media element in motifs, as the service encourages sharing of ideas. But the social aspect is completely optional -- and even if the service fails to build a thriving environment of openly shared investing ideas, you can still benefit from its other advantages.

Why pay more?
If investors start using Motif's tools to their fullest extent, then ETF providers from giants BlackRock (NYS: BLK) and State Street (NYS: STT) on down the line should start watching out. There's nothing stopping Motif users from creating their own motifs based on publicly available holdings lists from popular ETFs -- and by doing so, they would avoid ETF fees. Admittedly, some ETFs already have rock-bottom fees, but others have charges that run as high as 1% or more annually.

As proposed, Motif has one major downside. Because you're really buying individual stocks rather than a single bundled security, you'll have somewhat complicated tax reporting every time you buy and sell a motif. ETFs, by contrast, are treated as separately taxable units for tax purposes, and so trading them only produces a single taxable transaction for reporting purposes.

But the big question facing Motif is how it can offer its service at the minimal price it's charging. By essentially offering microtrades at as little as $0.33 per stock, Motif is effectively undercutting even the deepest discounters out there. Investors need to watch to make sure that trade execution quality doesn't suffer. But Motif has several managers and advisors with extensive experience throughout the industry, most notably including a former executive that helped push E*TRADE (NAS: ETFC) forward in its brokerage and banking ventures.

Take a look
Despite those concerns, Motif offers a very promising alternative to the fee-driven world of ETFs. If it can succeed as a viable business, then Motif could well become the most efficient platform for investors to use in creating their own custom-made portfolios of stocks -- all the while allowing its simplicity to make life easier for beginning investors who are often intimidated by the prospect of investing in stocks.

One theme we've looked at extensively is the power of dividend stocks to support your portfolio. It may not be set up as a motif yet, but you can read about some great examples in the Fool's special report on dividends. Inside, you'll find the full scoop about nine stocks that will help you secure your future. It's free, so click here and get your copy today!

At the time thisarticle was published Fool contributor Dan Caplinger loves cheaper alternatives. He doesn't own shares of the companies mentioned. You can follow him on Twitter @DanCaplinger. Motley Fool newsletter services have recommended buying shares of BlackRock. Motley Fool newsletter services have recommended creating a diagonal call position in Wal-Mart. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool's disclosure policy kills bugs dead.

Copyright © 1995 - 2012 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.