Strong Asset Growth
Active ETF assets have enjoyed strong growth over the last few years. When the first active ETFs launched in 2008, offering investors the enhanced return potential of professional active management, assets grew at a relatively slow pace. Not only were there very few active ETFs available to investors in the early years, the lack of asset class variety and quality managers limited the number of compelling opportunities for investors. Since 2019, however, active ETF assets have risen dramatically, substantially outpacing passive ETF growth, and nearly tripling during the period. This is due in part to developing trends in the active ETF universe (more on that below).
Strong Active ETF Asset Growth
Source: Morningstar, 10/31/21
Consistent with the escalation in assets, active ETFs’ net sales have been impressive with YTD 2021 net flows nearly three times those of 2019. We believe this is due to investors’ renewed awareness and interest in active management, especially within the tax-efficient ETF vehicle type. As noted previously, the increasing abundance of active ETFs in the marketplace is also contributing to heightened flow activity.
Momentum in Active ETF Net Flows
Source: Morningstar, 10/31/21
As expected, given the expanding interest among investors and acceptance by the investment community, we’ve seen a dramatic increase in the number of new active ETFs in recent years. In fact, in 2020 and in 2021, there were more active ETFs launches than active mutual funds. This is a significant development relative to prior years. While the early active ETFs were focused on fixed income, many equity ETFs emerged this past year.
More Active ETF Launches Than Active Mutual Funds in 2020 and 2021
Source: FUSE Research and Morningstar, 10/31/21
Performance results for active ETFs relative to their respective broad market indices were mixed. As illustrated below, diversified, core-oriented active fixed income ETFs (on average) have beaten their passive proxy, the Bloomberg Aggregate Bond Index. Similarly, diversified international equity active ETFs have outperformed the MSCI ACWI ex US Index for the year-to-date. Certainly, an encouraging endorsement for active ETFs in these two important investment areas.
However, consistent with trends broadly discussed in the media of late regarding some active US equity managers facing challenges outperforming their indices, diversified US equity ETFs (on average) have trailed their passive rival, the S&P 500, in 2021.
Regardless of the asset class, investors should carefully evaluate any active product they are considering. Beyond year-to-date returns, investors should analyze an active manager’s long-term performance, investment process, risk controls, and overall firm reputation.
Strong Active ETF Performance in Fixed Income and International Equity
|Active Diversified US Bond ETFs1||-1.04%|
|Bloomberg Aggregate Bond Index2||-1.58%|
|Active Non-US Diversified ETFs3||10.39%|
|MSCI ACWI ex US Index4||8.43%|
|Active Diversified US Equity ETFs5||19.98%|
|S&P 500 Index6||24.04%|
Active ETF Trends
Key trends in this area in 2021 include the escalating AUM in active semi-transparent ETFs and the emergence of futures-based Bitcoin ETFs. Active semi-transparent ETFs first launched in 2020, but only began driving notable assets into the active ETF space in 2021. Active semi-transparent ETFs offer an enhancement to the existing ETF chassis, freeing portfolio managers from having to disclose daily holdings, and possibly risking front running by predatory investors. This improvement is evidenced by the increasing number of portfolio managers willing to run ETFs.
With rising investor interest in cryptocurrency, and some nations (including Canada) allowing these products to come to market, we saw US regulators approve the first futures-based Bitcoin ETFs in 2021. While these new ETFs are passively managed, speculation abounds that many firms are hard at work creating active cryptocurrency ETFs for market release soon. Over the long term, we expect investors to treat cryptocurrency ETFs similarly to any other investment choice within the liquid alternative bucket of their portfolios.
Like 2021, we expect to see encouraging developments and opportunities in this area this year, particularly as recently incepted active ETFs reach the 3-year mark. Investors continue to be intrigued about the prospect of gaining alpha and tax-efficiency through active ETFs. We look forward to sharing news on undoubted progress through 2022.
2 Active Non-US Diversified Equity ETFs: Includes ETFs in Morningstar’s Foreign Large Blend, Foreign Large Growth, Foreign Large Value, Foreign Small/Mid Growth, Foreign Small/Mid Value categories.
3 Active Diversified US Equity ETFs: Includes ETFs in Morningstar’s US Large Blend, US Large Growth, US Large Value, US Mid Blend, US Mid Growth, US Mid Value, US Small Blend, US Small Growth, US Small Value categories.
4 The Bloomberg US Aggregate Bond Index is an unmanaged index that covers the US-dollar-denominated, investment-grade, fixed-rate, taxable bond market of SEC-registered securities. The index includes bonds from the Treasury, government-related, corporate, mortgage-backed securities, asset-backed securities, and collateralized mortgage-backed securities sectors.
5 The MSCI All Country World Index ex US is a free float-adjusted market capitalization index that is designed to measure equity market performance in the global developed (excluding the USA) and emerging markets. The index is shown with minimum dividend reinvested after deduction of withholding tax. The index is calculated by optimizing the MSCI USA Index, its parent index, in USD for the lowest absolute risk.
6 The S&P 500® Index is a widely recognized measure of US stock market performance. It is an unmanaged index of 500 common stocks chosen for market size, liquidity, and industry group representation, among other factors. It also measures the performance of the large-cap segment of the US equities market.
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Options: An option is a contract giving the buyer the right – but not the obligation – to buy (in the case of a call) or sell (in the case of a put) the underlying asset at a specific price on or before a certain date. Investors use options for income, to speculate, and to hedge risk.
Options may be used for hedging purposes, but also entail risks related to liquidity, market conditions and credit that may increase volatility. The value of the fund's positions in options may fluctuate in response to changes in the value of the underlying asset. Selling call options may limit returns in a rising market.
An exchange-traded fund, or ETF, is a marketable security that tracks an index, commodity, bond, or a basket of assets like an index fund. ETFs trade like common stock on a stock exchange and experience price fluctuations throughout the day as they are bought and sold. Short-term fixed income ETFs invest in fixed income securities with durations between one and five years.
All investing involves risk, including the risk of loss. Investment risk exists with equity, fixed income, money market, and alternative investments. There is no assurance that any investment will meet its performance objectives or that losses will be avoided.
The views and opinions expressed may change based on market and other conditions. This material is provided for informational purposes only and should not be construed as investment advice. There can be no assurance that developments will transpire as forecasted. Actual results may vary.
Unlike passive investments, there are no indexes that an active investment attempts to track or replicate. Thus, the ability of an active investment to achieve its objectives will depend on the effectiveness of the investment manager.
Diversification does not guarantee a profit or protect against a loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Asset allocation does not ensure a profit or protect against loss.
ETF General Risk: 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. Fixed Income Securities Risk: Fixed income securities may carry one or more of the following risks: credit, interest rate (as interest rates rise bond prices usually fall), inflation, and liquidity. Below Investment Grade Securities Risk: Below investment grade fixed income securities may be subject to greater risks (including the risk of default) than other fixed income securities. Foreign and Emerging Market Securities Risk: Foreign and emerging market securities may be subject to greater political, economic, environmental, credit, currency, and information risks. Foreign securities may be subject to higher volatility than US securities, due to varying degrees of regulation and limited liquidity. These risks are magnified in emerging markets. Interest Rate Risk: Interest rate risk is a major risk to all bondholders. As rates rise, existing bonds that offer a lower rate of return decline in value because newly issued bonds that pay higher rates are more attractive to investors.
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