Call it an ETF explosion.
U.S.-based exchange-traded funds have racked up a record $4 trillion in assets under management as of this year, with 136 ETF providers offering 2,062 ETFs to investors, according to research firm ETFGI.
Overall, ETFs are seeing huge interest globally — a trend confirmed by record levels of inflows — and that’s unlikely to die down anytime soon, says Deborah Fuhr, the founder of ETFGI and one of the world’s leading experts on the ETF industry.
“I think we’re still in early days of adoption because I think ETFs are now moving to a level playing field,” she said Monday on CNBC’s “ETF Edge.”
With the Securities and Exchange Commission watering down its “exemptive relief” rule, which often made the come-to-market process long and arduous for ETF issuers, ETFs are entering a new era that could expand their space even further, Fuhr said.
“With the ETF rule coming to market, it really means bringing ETFs out will be as easy as mutual funds,” she said. “I think that you’ll find that different types of products will come to market.”
Some of those products could be hedge-fund replicas, which have taken hold among some ETF issuers seeking to offer a cheaper way for investors to get more focused exposure.
“Today, the ETF industry globally is $2.5 trillion bigger than the hedge fund industry,” Fuhr said. “And if you look at asset-weighted returns of hedge funds as an industry, for the past eight years, they’ve underperformed the S&P . Now, you might not say that’s the right proxy, but, clearly, you’re paying a lot for those funds and they’re still not delivering alpha.”
The rush to ETFs, while powerful, has also been fairly narrow, according to Fuhr’s firm. The top 10 ETFs trading on U.S. exchanges account for 28% of total U.S. assets under management, with the top 20 U.S. ETFs accounting for nearly 40% of assets in the space.
Same goes for ETF issuers. The top five ETF providers — iShares by BlackRock, Vanguard, SPDR, Charles Schwab and First Trust — preside over 87% of the total assets in the ETF market, with iShares and Vanguard alone managing 65%, ETFGI reports.
Nick Colas, co-founder of DataTrek Research, said in the same “ETF Edge” interview that this market structure “does make a lot of sense.”
“Ultimately, this is an industry that rewards economies of scale, economies of scope,” Colas said. “So, if you’re an ETF provider and you have a larger ETF, you can charge lower fees and put the product in front of more customers.”
Customer acquisition will soon come into focus for one newly popular side of the market: ESG, which stands for Environmental, Social and Governance and promotes socially responsible investing. Assets invested in ESG funds topped $18 billion this year, up from $7 billion in 2017 and $4 billion in 2015.
“I think it’s becoming increasingly important, driven in Europe by the regulators forcing it to be part of the discussion and driven by people like your kids,” Fuhr said. “They’re going to have a view that they don’t want to invest in companies that aren’t doing things to help the climate or the state of the world going forward.”
As follows, “many people want to include certain types of stocks and I think people want to reward those that are doing well,” Fuhr said. “I think ESG will no longer be discussed five years from now because the indices will be including those types of factors and it’ll be mainstream.”
Steve Grasso, who is managing director of institutional trading at Stuart Frankel, pointed out in the same “ETF Edge” interview that even as the ETF space is growing rapidly, it could eventually see a serious contraction.
“Just remember: how many times have we done reports and … all looked at each other in the face and said, ‘There’s only six stocks that matter’?” Grasso said. “It’s going to be the same thing with ETFs, that you’re going to have only 28 ETFs that matter.”
Only time will tell.