February 2017 was a great month for ETFs, with $46.7 billion in new net inflows. Continuing 2016 and January’s trend, ETF money flowed disproportionately into vanilla funds, increasing vanilla’s market share at the expense of the strategic group (the so-called smart beta funds) and idiosyncratic funds during February.
FactSet classifies ETF strategies into four groups: vanilla, active, strategic and idiosyncratic. Vanilla funds track broad-based, cap-weighted indexes. Active ETFs have humans at the helm. Strategic funds, often marketed as “smart beta,” apply well-researched investment and economic principles to security selection and weighting. Idiosyncratic funds take a nonstandard approach, such as price-weighting, exchange-specific selection or principles-based selection and weighting.
It’s not that all the strategics and idiosyncratics are losing assets, though the iShares Edge MSCI Min Vol suite of ETFs’ $639 million February outflows might make it seem that way. It’s more that strategic and idiosyncratic funds are losing market share by gaining assets at a lower rate than vanilla funds. They’re slow growing themselves to a decreasing footprint.
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As you can see in the table above, vanilla ETFs took in over 77% of all ETF inflows in February; that’s more than its beginning market share of 72.1%. Vanilla’s ratio of net flows to starting market share was greater than one, which translates to an increase in market share.
Meanwhile, strategic approaches gathered only 18% of net flows, despite a starting 21.9% market share. That’s like handing over one dollar out of every five to Mr. Vanilla. Idiosyncratic funds did even worse, capturing only half their expected flows.
The ETF industry is hungry for new opportunities. With strategics and idiosyncratics losing market share, asset managers are wondering how to best ride the ETF wave.