The battle for active ETFs is a tough one, but the future still looks bright indeed, AdvisorShares CEO Hamman says.
The vast majority of the more than $1.2 trillion in ETF assets are in passive, indexed strategies. But that hasn't deterred AdvisorShares Chief Executive Officer Noah Hamman from leading the charge to define a more active future in the world of exchange-traded funds. His firm helps active managers bring their strategies to market in ETF wrappers, and his biggest fund, the AdvisorShares Active Bear ETF (NYSEArca: HDGE), has $326 million in assets, or just over half of all the assets to his firm's name.
In an interview with IndexUniverse Correspondent Cinthia Murphy, Hamman acknowledged that market development for active ETFs has so far been a tough row to hoe, but said the same was true for index ETFs in the early years. He argued that most mutual fund assets remain in active strategies, and because investors want alpha, a lot of those assets stand a decent chance of migrating into active ETFs.
Murphy: I have been told recently that the next wave of growth in the ETF industry will not come as much from 401(k)s as from a boom in actively managed strategies. I assume you would be in that camp, right?
Hamman: The majority of investor assets in equities mutual funds—something like 80 percent, last time I checked—is tied to actively managed strategies. It's a really big number. It's investors voting with their dollars to say they want active management. So we look at that and we see the potential. But it's a slow process to tap into that demand.
Murphy: For an active ETF provider like AdvisorShares, then, the competition is mutual funds rather than index-fund firms?
Hamman: I often get that question: "How are you going to compete with iShares, PowerShares, SSgA?" And I always answer it the same way: We are not competing against those guys. We are competing with actively managed mutual funds.
Murphy: So an active ETF should not be seen as a replacement for a passive strategy, but rather a complement to it in an overall portfolio?
Hamman: Investors really need a balance between asset class diversification and manager diversification. You go out and get exposure to an asset class either broadly or granularly through an index-based strategy. When you see an index ETF, you automatically know whether you want that beta exposure or not. But in an active fund, you look at a manager's track record and you choose whether to add that to your mix or not.
Murphy: Meaning, ideally investors would own, say, (NYSEArca: SPY) and then add various active funds to complement and/or hedge their positions?
Hamman: Definitely. With active management, you might want different management approaches to a certain exposure, like one manager who focuses on fundamentals, one who is keen on technicals, etc. In the end, it's all about getting manager-style diversification on top of your asset class diversification.
Murphy: If the potential is this great, why are so many actively managed ETFs struggling to stay afloat?
Hamman: To put this into perspective, if you look at the first four years of index-based strategies—ETFs first came to be in 1993—and look at the first four years of active management, with the first actively managed ETF coming to market in 2008, you will see that active funds have gathered far more assets and launched far more products in that same time frame. On a relative basis, active ETFs have taken off to a great start.
Murphy: But one could argue that active ETFs are entering a well-established marketplace already where index funds had to blaze a new trail.
Hamman: I have to give credit to index ETFs for laying the groundwork, no doubt. But conversely, I can also say that the early ETFs were very institutional-focused, they were big-ticket items. Active ETFs are largely not for institutions right now; they have tended to target the smaller, retail investor, so it been harder to accumulate assets because they are smaller ticket items. I do believe institutional will use active ETFs, but it will definitely take some time and growth.
Charts courtesy of AdvisorShares