Actively managed ETFs are still just a sliver of the larger exchange traded product (ETP) market, accounting for about a percent of US assets under management. But a combination of loosening regulations and market tailwinds will propel it to $500 billion assets under management, according to a report from SEI Investments.
“As actively managed ETFs continue to attract greater attention and accumulate more investment dollars, they will start competing with traditional active mutual funds for market share,” says the SEI strategy brief Active ETFs Revisited. “Pooneh Baghai, co-leader of McKinsey’s Americas Wealth Management, Asset Management and Retirement Practice, predicts that assets in actively managed exchange-traded funds will explode to $500 billion by 2020, up from $15.2 billion today.”
Active ETFs attract both mutual fund managers and a maturing passive ETF industry
The entire ETF market, including passive and active, had 1,568 US-listed products with $1.7 trillion in AUM between them, which jumps to $2.4 trillion if you include global accounts. The 85 active ETFs operating in the US couldn’t possibly compete on raw numbers. But this is partially because passive ETFs have a longer history; if you only count products launched since 2008 active ETFs make up 7% of assets. The SEI brief argues that this is because passive ETFs are quickly maturing and that there are only so many niche indexes left for new products to track.
While passive ETF managers are entering the active ETF market from one direction, traditional mutual fund managers are entering it from the other. Investors are increasingly aware of how much management fees impact their returns and active ETFs provide something of a middle ground. The expense ratio for active ETFs averages 0.84% compared to 0.61% for the broader ETP market (which has plenty of options below 0.15%), but it’s still a big step down from most mutual fund fee structures.
Active ETF have more options as regulations change
Active ETFs had been held back by a ban on using derivatives that was lifted in December 2012, but the approval process for new products takes anywhere from 6 to 18 months, and it tends to the high end when derivatives are involved. The use of over-the-counter derivatives could drag the process out even more. Even if there was a wave of manager interest after the derivative ban was lifted, new products would only trickle onto the market and there is still room for growth.
The other major regulatory hurdle is that, unlike traditional mutual funds, active ETFs have to report their positions and calculate the net asset value (NAV) at the end of each day. For bond market active ETFs like PIMCO’s Total Return Bond ETF this isn’t a major problem, but it creates a challenge for managers who want to open actively managed equity ETFs because it lets the competition trade around them and it allows investors to match their portfolio (with daily rebalancing) without every paying a fee.
But BlackRock, Inc. (NYSE:BLK), Navigate Fund Solutions, Precidian Investments and others have filed with the SEC for active ETFs with delayed transparency (their exact proposals differ), and if one of their ideas gets approval it would create another opening for active ETF managers.