Exchange-traded funds’ (ETFs) long association with index-tracking strategies that hold hundreds of names has led investors to view ETFs as synonymous with passive strategies. This is no longer the case.

Diversification, investing in a large and varied selection of securities, has always played a prominent role in portfolio construction. In our opinion, the theory that true diversification and risk reduction can only be achieved by holding a large number of individual securities is not necessarily true. Active, bottom-up portfolio strategies can enhance diversification benefits by moving toward more concentrated portfolios of high-conviction, deeply researched ideas. Such strategies are becoming increasingly available in the active ETF wrapper for clients seeking long-term, risk-adjusted outperformance.

The Power of Investing Focus
A concentrated portfolio construction approach may empower experienced active investment managers to deliver above-average returns while ensuring effective risk management. By maintaining an investment philosophy that is discriminatory by definition, these active managers only include best-in-class securities on which their teams have conducted in-depth, fundamental analysis. As Warren Buffett has stated: “Diversification may preserve wealth, but concentration builds wealth.” This rings true for active managers that trust their rigorous stock selection process and deeply understand the businesses they own.

Strong Returns Can Come from Top Investment Ideas
In the course of constructing portfolios, active managers regularly review countless data points and investment themes such that they could potentially invest in hundreds of attractive stocks. However, those managers that pursue only their top ideas rely on deeper research to help focus their efforts (and resources) on only those stocks for which they hold the utmost conviction. This kind of concentrated investment style has the potential to lead to outperformance for investors. In fact, many portfolio managers' top 10 or 20 ideas greatly outperform the rest of their portfolios.1

Diversification and Concentration Are Not Mutually Exclusive
Studies have shown that portfolio risk, defined by the standard deviation of returns, can be reduced significantly by holding only about 20 securities.2 Above this level, any additional portfolio names will immaterially reduce overall risk – even with 1,000 names. Key to this assumption: The 20 securities selected possess diverse factors that drive performance and are not overly correlated to one another – which is why utilizing an experienced active manager behind these investment decisions is imperative.

Putting Theory into Practice
Two Natixis Investment Managers affiliate firms, Loomis Sayles and Vaughan Nelson Investment Management, utilize concentrated investment approaches allowing them to invest significant portions of capital in companies with the most promising prospects, or those that are undervalued by the market.

The Natixis Vaughan Nelson Select ETF (VNSE) generally holds about 30 stocks in a portfolio that is constructed using factor analysis and strict consideration of long-term growth potential and risk management. They use factor analysis to help determine satisfactory portfolio diversification. Technology-aided factor analysis enhances appropriate diversification with more accuracy than simply owning a large and varied number of stocks. Furthermore, applying technological advancements may more accurately predict how individual stocks react to different market scenarios and facilitate an accurate estimation of long-term risk potential.

The Natixis Loomis Sayles Focused Growth ETF (LSGR) focuses on high-quality businesses with truly sustainable competitive advantages. Managed by Aziz V. Hamzaogullari, chief investment officer and founder of the Loomis Sayles Growth Equity Strategies (GES) team, he uses a long-term, private equity ownership approach and buys companies trading at a discount to intrinsic value to help manage portfolio risk.

Looking into the Future
While achieving broad-based diversification by owning a large number of securities has long been accepted as general practice in the investment industry, investment managers like Vaughan Nelson and Loomis Sayles may better represent the future of portfolio construction, one in which factor analysis and deep research informs more rigorous "best idea" portfolio design – focused on risk management, long-term growth, and more calibrated diversification.

1 "Diversification versus Concentration ... and the Winner is?" Danny Yeung, Paolo Pellizzari, Ron Bird, Sazali Abidin.
2 Risk Reduction and Portfolio Diversification: An Analytical Solution by Edwin Elton and Martin Gruber (Journal of Business, 1977)

ETF General Risk: Exchange-Traded Funds (ETFs) trade like stocks, are subject to investment risk, and will fluctuate in market value. Unlike mutual funds, ETF shares are not individually redeemable directly with the Fund, and are bought and sold on the secondary market at market price, which may be higher or lower than the ETF's net asset value (NAV). Transactions in shares of ETFs will result in brokerage commissions, which will reduce returns. Active ETF: Unlike typical exchange-traded funds, there are no indexes that the Fund attempts to track or replicate. Thus, the ability of the Fund to achieve its objectives will depend on the effectiveness of the portfolio manager. There is no assurance that the investment process will consistently lead to successful investing. Equity Securities Risk: Equity securities are volatile and can decline significantly in response to broad market and economic conditions. Small and Mid-Cap Stocks Risk: Investments in small and midsize companies can be more volatile than those of larger companies. Value Investing Risk: Value investing carries the risk that a security can continue to be undervalued by the market for long periods of time. Non-Diversified Risk: Non-diversified funds invest a greater portion of assets in fewer securities and therefore may be more vulnerable to adverse changes in the market. Growth Stocks Risk: Growth stocks may be more sensitive to market conditions than other equities as their prices strongly reflect future expectations. Predatory Trading Practices Risk: Although the Fund seeks to benefit from keeping its portfolio holdings information secret, market participants may attempt to use the Proxy Portfolio and related Proxy Portfolio Disclosures to identify the Fund's holdings and trading strategy. If successful, this could result in such market participants engaging in predatory trading practices that could harm the Fund and its shareholders. Proxy Portfolio Structure Risk: Unlike traditional ETFs that provide daily disclosure of their portfolio holdings, the Fund does not disclose the daily holdings of the Actual Portfolio. Instead, the Fund discloses a Proxy Portfolio that is designed to reflect the economic exposure and risk characteristics of the Fund's Actual Portfolio on any given trading day. Although the Proxy Portfolio and Proxy Portfolio Disclosures are intended to provide Authorized Participants and other market participants with enough information to allow them to engage in effective arbitrage transactions that will keep the market price of the Fund's shares trading at or close to the underlying NAV per share of the Fund, while at the same time enabling them to establish cost-effective hedging strategies to reduce risk, there is a risk that market prices will vary significantly from the underlying NAV of the Fund. Authorized Participant Concentration Risk: Only an authorized participant ("Authorized Participant") may engage in creation or redemption transactions directly with the Fund. The Fund has a limited number of institutions that act as Authorized Participants, none of which are or will be obligated to engage in creation or redemption transactions. To the extent that these institutions exit the business or are unable to proceed with creation and/or redemption orders with respect to the Fund and no other Authorized Participant is able to step forward to create or redeem Creation Units, Fund shares may trade at a discount to NAV and possibly face trading halts and/or delisting. The Fund's novel structure may affect the number of entities willing to act as Authorized Participants, and this risk may be exacerbated during times of market stress. Trading Issues Risk: Trading in Fund shares on the NYSE Arca may be halted in certain circumstances. If 10% or more of the Fund's Actual Portfolio does not have readily available market quotations, the Fund will promptly request that the NYSE Arca halt trading in the Fund's shares. Such trading halts may have a greater impact on the Fund compared to other ETFs due to its lack of transparency. Premium/Discount Risk: The market value of the Fund's shares will fluctuate, in some cases materially, in response to changes in the Fund's NAV, the intraday value of the Fund's holdings, and the relative supply and demand for the Fund's shares on the exchange. There is a risk (which may increase during periods of market disruption or volatility) that market prices for Fund shares will vary significantly from the Fund's NAV. This risk may be greater for the Fund than for traditional ETFs that disclose their full portfolio holdings on a daily basis because the publication of the Proxy Portfolio does not provide the same level of transparency as the publication of the full portfolio by a fully transparent active ETF. Fund is new with a limited operating history.

Before investing, carefully consider the Fund’s investment objectives, risks, charges, and expenses. Please visit or call us at 800-225-5478 for a prospectus or a summary prospectus containing this and other information. Read it carefully before investing.

ALPS Distributors, Inc. is the distributor for the Natixis Vaughan Nelson Select ETF and the Natixis Loomis Sayles Focused Growth ETF. Natixis Distribution, LLC is a marketing agent. ALPS Distributors, Inc. is not affiliated with Natixis Distribution, LLC.