[This article appears in our December issue of ETF Report.]
One of the biggest trends in 2017 in the ETF landscape was issuers’ push to launch ETFs using active management or smart-beta methodologies.
Out of nearly 200 ETFs launched by the end of October, 54% used smart-beta methodologies based on data through Oct. 31. Close on smart beta’s heels were active management ETFs—about 60 as of the end of October. Considering ETF.com lists 200 active management ETFs overall, this year’s launches represent more than a quarter of all listed active ETFs.
A lot of the active management ETFs come from firms that have strong active management pedigrees, such as Davis Advisors, Legg Mason and Principal Global Investors, says Todd Rosenbluth, director of ETF research for CFRA.
“These are firms that have done very well in educating investors about active management in a mutual fund wrapper. It’s a logical extension of their efforts,” he said.
Lots Of Launches, Little In Flows
Yet Rosenbluth adds he’s surprised to see the number of funds with this methodology launch this year considering investor flows.
“Actively managed ETFs have been a drop in the bucket in terms of the overall asset base; investors haven’t fully embraced those strategies. They’ve gone from active equity mutual funds to primarily passive ETF and mutual funds, and skipped over the active ETF,” he noted.
That can be seen in fund flows. The bulk of investor dollars went to the plain-vanilla funds, such as the iShares Core S&P 500 ETF (IVV), the iShares Core MSCI EAFE ETF (IEFA) and the Vanguard FTSE Developed Markets ETF (VEA).
Where active management ETFs saw some flows is in the fixed-income side, Rosenbluth says.
One of the biggest launches this year on the active management fixed-income ETF side was the Principal Active Global Dividend Income ETF (GDVD), which debuted in May with $428 million in assets under management.
Paul Kim, managing director, ETF strategy at Principal Global Investors, said GDVD was designed for an affiliated investor who needed an active global equity income strategy at a reasonable price. It has an expense ratio of 58 basis points and now has $452 million in AUM.
Despite active management ETFs being a small part of the ETF landscape, Kim said Principal is seeing investor demand for these products, such as GDVD, and will continue to launch more active management funds.
“Index investing is great when it’s used in very specific formats for getting beta and for very efficient exposure to something, but as soon as you introduce multiple sectors, we think the element of active management starts adding some value,” he explained.
Principal is also increasing its smart-beta offerings, which Kim noted is growing faster than the broader market.
“As we navigate different market environments, there are going to be more proof points, and hopefully the better approaches will tend to win out over time,” he said.
Smart Beta Also Lacks Flows
Rosenbluth also noted more firms are entering or expanding their multifactor lineup, such as USAA launching smart-beta products late in the year. Yet like active management, smart-beta ETFs—especially the multifactor products—haven’t seen many inflows.
“Those will take time to gather assets. They need to prove themselves, and require investor education,” he said, adding that investors frustrated by active management’s high fees may eventually look at smart-beta products.
But that time isn’t now, for some advisors. Andrew Denney, founder and CEO of Prosperity Financial Group, said these funds are too new to consider using, and they don’t consider using funds without at least a five-year track record.
“They can say they use time-tested methodology or backtests to produce results, but you’re just really not ready to even look at something without a five-year track record,” Denney said.
Denney says they mostly stick to using very-low-cost, plain-vanilla ETFs for their investment models.
Kim agreed that having at least a three-year track record is necessary for active management: “That track record is an integral part of
selling an active strategy, because you have to have some proof around how these managers and investment processes navigated
Brion Collins, managing director and principal, wealth advisory at Bronfman Rothschild, says while he thinks active ETFs are “an interesting concept,” he doesn’t see them as being much different than an actual mutual fund.
“It’s fine. It’s a trend in the industry, and we recognize it. But we still do our internal research to see what holdings fit well,” explained Collins.