Cheap Passives Dominated 2017

January 19, 2018

[Editor’s Note: The following originally appeared on Elisabeth Kashner is director of ETF research and analytics for FactSet.]

2017 saw investors once again leaving traditional active managers and turning to passive investments, mostly ETFs. Not just any ETFs, either. Investors piled cash into the cheapest, simplest, broadest ETFs, suggesting that the era of the 10-basis-point portfolio has arrived.

A few headline statistics tell the story:

The 2017 trend is clear: U.S. investors in publicly available funds are voting with their dollars, prizing passively managed, cheap, simple and broad exposure in their ETF selections. This lends itself to building portfolios with just a handful of ETFs. Therefore, investors were the big winners in 2017, as they reduced costs and complexity in their portfolios, while increasing transparency and tax efficiency. It’s as if investors collectively said, “Portfolio construction solved!”

The picture isn’t uniformly grim for asset managers who offer complex or tactical strategies. There are pockets of investor interest, especially for active management in the ETF space. Even amidst the market share disaster that befell smart beta funds, a few strategies increased their footprint. In addition, many funds that lost market share nonetheless enjoyed positive flows. 

Data Backs Up ETF Headlines

The Investment Company Institute’s 2017 data tell a clear tale: disinvestment in equity mutual funds in favor of ETFs, gain of market share for bond ETFs. The first chart shows net 2017 flows in dollars; the second shows them as a share of AUM at the start of the year.


For a larger view, please click on the image above.


For a larger view, please click on the image above.


To compound the trouble for mutual funds (or at least for active management) there is increasing evidence that more than half of the bond mutual fund inflows went to Vanguard’s passively managed funds. Despite inflows to bond funds, ICI’s count dropped from 2,183 bond mutual funds to 2,149 from November 2016 to November 2017, a 1.5% reduction. In contrast, the number of fixed-income ETFs increased by 10.7% in 2017.

As the charts above make clear, ETFs (99% of which are passive by AUM) are taking in money far faster than mutual funds are losing it. Cost may well be the driving factor, especially in the shadow of the Department of Labor’s Fiduciary Rule.

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