ETF market update March 2019

Insights

ETF market update 

March 2019

So far, so good for the ETF Market?

ETFs had an interesting 2018. There was significant volatility in the stock markets towards the end of 2018 which affected some of the big name players in the ETF market. Across the market many sector specific ETFs like the S&P 500 ended the year on low performance records which have not been seen since the dark days of 2011. On the other hand 2018 brought many exciting signs that there is still significant investors interest in ETF products. Globally there was over 1,172 new ETFs in existence in 2018 . As 2019 begins, ETF investors and the broader financial world have seen investors questioning their confidence in potentially volatile stock markets and indices, seeking other strategies outside of the traditional stock market ETFs. In this update we explore the trends in the ETF market and where we expect investors will find value in the ETF market in 2019.

Environmental, social and governance (“ESG”) ETFs

ESG ETFs present an interesting alternative for investors. A traditional index may provide, in the short-term, uncertainty of returns, but ESG ETFs offer investors certainty in their advocacy of ethical impact and sustainable practices through their socially responsible holdings. The popularity of such products was apparent in early 2019 as total assets in ESG ETFs increased by 9.9%, earning net inflows from investors of $730 million in January . However, would investors be guilty of engaging in delusional blue-sky thinking by seeking an ESG ETF to provide them with the benefits of both strong financial returns and a clear conscience? Sarah Kjellberg, head of BlackRock ‘s iShares Sustainable ETFs, believes that ESG investors can be both financial and purpose-driven: “It's long-term thinking; we weather the storm and hang on to these investments that you believe are really geared towards delivering long-term value” at the same time also holding an investment that “speaks to someone's values.” ESG is becoming a growing theme in the industry and there has seen been a number of ESG ETFs launched in the last two years especially in Europe.
 

Active ETFs

Active ETFs are another alternative to the traditional passive model, particularly in volatile markets. By their inherent nature, active ETFs allow the investment manager to make investment decisions, which are often based on a benchmark index but have strayed away from the passive strategy through their factor or rule-based asset allocations, potentially sheltering their funds from some of the turbulence that swept the markets in 2018.

In 2019, Goldman Sachs have stated that, according to their research, more than half of actively managed mutual funds are beating their benchmarks. Should this level of performance continue for the remainder, the industry would experience its best year since 2009. Active ETFs, are more expensive than their passive counterparts, but generally significantly cheaper than actively-managed mutual funds which is why investor preferences are shifting given the pressure on lower fees and total expense ratio.. Active ETFs have risen to over $112bn global in 2019 which is the highest on record.

Short Duration ETFs

Active ETFs are also continuing to make headway in the fixed income space. The bond market has recently seen trends of reducing yields and increased averaging durations. This has resulted in an appetite for short duration income ETFs. Some of the main concern from investors are potential interest rate hikes and therefore short-duration bond ETFs limit risks and still produce attractive yields. The most popular short duration ETF in the market is PIMCO Enhanced Short Maturity Active ETF with net assets of $11.9 billion at the end of February 2019. Legg Mason recently launched their own actively managed fixed income ETF, the Western Asset Short Duration Income ETF, and stated their intention to “enhance outcomes of a portfolio by selectively identifying both value and income opportunities and potentially enhancing diversification.”

In 2019 we expect inflows to continue into ETFs similar to the previous years. We expect to see more of ESG, Active and Short Duration ETF products being launched as investors preferences shift away from the traditional stock market ETFs. Investors are looking for more ways to generate alpha, at a lower costs and also becoming more socially responsible in their investment preferences. The lower cost is a significant barrier for other asset manager to get into this space as it does require scale to make the business model profitable. We are seeing zero fee ETFs being launched in the market but the question is are they really free?

 

[1] ETFGI - https://etfgi.com/
[2] ETFGI - https://etfgi.com/
[3] https://www.etf.com/publications/etfr/etf-investing-impact
[4] https://www.nasdaq.com/article/assets-invested-in-actively-managed-etfsetps-globally-rises-112-billion-highest-on-record-cm1103490 
[5] https://www.etf.com/sections/etf-industry-perspective/legg-mason-case-active-short-duration-income

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