Who's Winning The ETF Race?

January 05, 2010

In a sneak preview from January's Exchange-Traded Funds Report, we look at the state of the ETF industry in 2010.

 

There’s little question: The exchange-traded fund industry is booming. At the end of November 2009, U.S. ETF assets hit a new all-time high, of $752 billion, and inflows into ETFs were set to top $100 billion for the year. Based on prevailing expense ratios alone, the industry was earning $2.62 billion in annual fees.

This fast-rising tide, however, hasn’t lifted all boats evenly. Some ETF companies are rising faster and higher than the rest. We decided to run the numbers and see who’s winning, who’s losing and who’s emerging as new powerhouses in the industry.

The Market Leaders

The ETF industry is decidedly top-heavy. There are six ETF providers with more than $10 billion in assets under management, and together, these firms hold an astonishing 94 percent of all industry assets.

BlackRock
$360 billion AUM
$1.32 billion in estimated fees
Largest ETF: iShares MSCI Emerging Markets ETF (NYSE Arca: EEM), $37.3 billion

At the top of the pile—by a long shot—is BlackRock. BlackRock’s iShares brand holds 48 percent ($361 billion) of all ETF assets and earns more than half of the industry’s total revenues (about $1.32 billion). BlackRock offers the most ETFs of any company (188); had the highest inflows in 2009 through November ($35 billion); and is the brand most closely associated with the term “ETF.”

If BlackRock has a weakness, it’s fees. A number of low-cost competitors such as Vanguard and ETF Securities have been gaining traction recently by offering investors similar products to dominant iShares brands at substantially reduced costs. We’ve seen funds like the iShares MSCI Emerging Markets ETF (NYSE Arca: EEM) and the iShares Silver Trust (NYSE Arca: SLV) lose market share to lower-cost competitors.

By no means does this suggest that BlackRock is in trouble, or that its market dominance is truly threatened. But the fee wars will most likely only intensify in the coming months and years, and BlackRock’s eventual response could resonate throughout the industry.

State Street Global Advisors
$182 billion in AUM
$419 million in estimated fees

Largest ETF: S&P 500 SPDRs (NYSE Arca: SPY), $72.2 billion

State Street Global Advisors launched the first and now largest ETF in the United States, the S&P 500 SPDRs (NYSE Arca: SPY), and continues to be a major player. The firm holds a solid grip on the No. 2 slot in the industry both for assets ($182 billion) and revenues (about $419 million, or 16 percent of the industry total).

State Street’s ETF lineup is a bit top-heavy, with $115 billion of its $174 billion held in just two funds, the aforementioned SPY and the wildly popular SPDR Gold Shares (NYSE Arca: GLD).

But SSgA’s lineup isn’t one-dimensional. The company has a strong family of associated sector ETFs (the Select Sector SPDR ETFs), and has been a leader in new areas of the market, like international fixed income. If it can continue to grow assets outside of its big two funds, its position near the top of the industry will be secure.

Who's Winning The ETF Race?

 

Vanguard
$87 billion in AUM
$134 million in estimated fees

Largest ETF: Vanguard Emerging Markets ETF (NYSE Arca: VWO), $17.8 billion

Vanguard has become the fastest-growing ETF provider in the world, and its presence is significantly changing the ETF landscape. The company’s firm focus on low costs and solid core products has resonated with investors. Company assets have more than doubled over the past year, from $40 billion to $87 billion, and the firm led all issuers for net inflows in the month of November, with more than $5 billion in net inflows.

Vanguard offers just 46 ETFs, focusing on core areas of the market and not dipping far into “satellite” funds. The firm has achieved incredibly steady inflows: Whether the market is up, down or sideways, Vanguard seems to show month after month of net growth. Look for Vanguard to continue gaining market share in 2010 and beyond. If recent trends persist, Vanguard will challenge SSgA for the No. 2 ranking in the industry within five years.

 

 

Invesco PowerShares
$42 billion in AUM
$197 million in estimated fees

Largest ETF: PowerShares Nasdaq-100 ETF (NYSE Arca: QQQQ), $16.9 billion

PowerShares is perhaps best-known for its quant-driven “Intellidex” ETFs, which helped turn the company from an upstart into a major player in the first half of this decade. The popularity of those funds, however, has declined sharply. Its original “flagship” fund—the PowerShares Dynamic Market ETF (NYSE Arca: PWC)—now has just $259 million in assets, making it only the 25th-largest PowerShares ETF.

Today, the PowerShares lineup is marked by its eclectic nature. Forty percent of its assets ($16.9 billion) are in the PowerShares Nasdaq-100 ETF (NYSE Arca: QQQQ), a quasi-technology-sector ETF that it acquired a few years ago. After that, PowerShares’ largest ETFs are commodity and currency funds: the $4.2 billion PowerShares DB Commodity ETF (NYSE Arca: DBC), $2.4 billion PowerShares DB Agriculture ETF (NYSE Arca: DBA) and $1.4 billion PowerShares DB US Dollar Index Bullish Fund (NYSE Arca: UUP).

Below the top five, the products get even narrower: ETFs that own preferred financial stocks, or target just the global water crisis, and … well, you get the idea.

By constantly innovating and launching new funds, PowerShares has been able to stay ahead of a number of market trends for a decade. The question, obviously, is whether this is truly a sustainable growth strategy, without stronger support from the company’s “core” equity ETFs, including both the Intellidex ETFs and the FTSE RAFI fundamentally weighted product series.

Of note: Despite having less than half Vanguard’s assets, PowerShares earns about 50 percent more in annual revenues, showing that higher fees do add up.

ProShares
$25 billion in AUM
$234 million in estimated fees

Largest ETF: ProShares UltraShort 20+ Year Treasury (NYSE Arca: TBT), $4.3 billion

Speaking of high fees, ProShares­—with just 3.3 percent of industry assets—pulls in 8.9 percent of all ETF fees. By charging fees of 0.95 percent on its heavily traded family of leveraged and inverse ETF, ProShares actually pulls down more in annual revenues than either PowerShares or Vanguard.

2009 was an incredible year for the company. Despite extensive negative media attention surrounding the performance and design of its core products, ProShares attracted $8.5 billion in net new cash from investors (or perhaps we should say speculators) in 2009 through November, the third-highest of any ETF company this year. The media may not like the ProShares products much, but traders sure do.

Van Eck
$12 billion in AUM
$72 million in estimated fees

Largest ETF: Market Vectors Gold Miners ETF (NYSE Arca: GDX), $5.8 billion

Van Eck is a surprise entrant in the pantheon of leading ETF issuers. A relatively small company running a lean operation, Van Eck has accumulated $12 billion in assets spread across just 27 funds. Nearly half those assets—$5.8 billion—are invested in the Market Vectors Gold Miners ETF (NYSE Arca: GDX), while the remainder is sorted between additional commodity-producing equity ETFs (agribusiness, steel, etc.) and emerging market country funds (Russia, Brazil small-cap, etc.)

Van Eck has built a good franchise, and continues to churn out winning funds, such as the recently launched Market Vectors Junior Gold Miners ETF (NYSE Arca: GDXJ), the fastest-growing new ETF in 2009. However, the company is vulnerable to a pullback in commodity prices, as nearly all its funds are tied in one way or another to the commodity boom.

The Middle Tier

There are eight ETF providers that fall into the middle tier of the ETF industry: firms with between $1 billion and $10 billion in assets. These companies are still making their way in the world, looking to build major franchises and having some success at it, but not yet able to compete with the biggest firms on an asset basis.

Based on prevailing expense ratios, these firms pull down between $11 million and $48 million in annual fees. That is enough for some, but not all, of these companies to be profitable as stand-alone businesses. In many cases, these are still companies with something to prove.

 

 

HOLDRS
$7.7 billion in AUM
No data on fees.
Largest ETF: Oil Services HOLDRS (NYSE Arca: OIH), $2.3 billion

The HOLDRS are a legacy of a different era. They operate almost as pre-ETFs, with no ability to adjust their portfolios and an individual-size creation/redemption basket.

But despite being difficult to trade in some circumstances and having unusual portfolios of securities, the HOLDRS are popular, and together hold $7.7 billion in assets. The Oil Services HOLDRS (NYSE Arca: OIH), Pharmaceutical HOLDRS (NYSE Arca: PPH) and Semiconductor HOLDRs (NYSE Arca: SMH) are among the largest and most liquid ETFs in their respective sectors.

No one is creating more HOLDRS at this time—the product structure has been eclipsed by the ETF format—but while the existing HOLDRS are out there, investors will continue to use them.

United States Commodity Funds
$6.3 billion in assets
$35 million in estimated annual fees
Largest ETF: U.S. Natural Gas ETF (NYSE Arca: UNG), $3.7 billion

United States Commodity Funds have become synonymous with two products: the $2.2 billion U.S. Oil Fund (NYSE Arca: USO) and the $3.7 billion U.S. Natural Gas ETF (NYSE Arca: UNG). Over the last two years, these two funds have vaulted into the vernacular: When investors and TV pundits talk about the daily price moves of oil and gas, they often cite USO and UNG as their proxies.

The popularity has been a double-edged sword for the company. USCF became the poster boy of alleged problems when U.S. regulators tried to blame the run-up in oil prices on commodity ETFs. The company’s CEO, John Hyland, was called to testify before Congress, where he laid out cold, hard data showing that ETFs couldn’t possibly be to blame, and were in fact net buyers during sell-offs, and net sellers during run-ups.

The regulatory uproar surrounding commodities seems to have dissipated. That’s left USCF with the comparatively simple job of just launching more products and building investor interest. Toward that end, it recently came out with the 12-Month Natural Gas ETF (NYSE Arca: UNL), designed as a way to outrun contango in the natural gas market.

Like Van Eck, USCF’s fortunes are inextricably tied to the commodity boom. In fact, its focus is even narrower, honing in so far only on the energy futures market. It remains to be seen if it will look outside that core area and expand into broader commodities as a new source of growth.

WisdomTree
$6.1 billion in assets
$33 million in estimated fees
Largest ETF: WisdomTree India Earnings Fund (NYSE Arca: EPI), $671 million

As the sole publicly traded ETF-only company, we know a lot about WisdomTree. We know that it continues to build assets in its family of 51 ETFs, which focus alternately on fundamentally weighted equity exposure and currencies. We know that it now has $6.1 billion scattered amongst these funds, earning about $33 million per year in expense-driven fees. And we know that the company is still losing money: about $20 million annually on a GAAP basis, according to its most recent report.

With about $22 million in cash in the bank, WisdomTree is in a race to get profitable before it runs out of cash. With a complete lineup of equity funds, WisdomTree could be an attractive buyout candidate for a larger firm looking to make the leap into the ETF space.

One positive note for WisdomTree: Its largest ETF, the WisdomTree India Earnings Fund (EPI), is also its priciest, with an expense ratio of 0.88 percent. The fund generates $5.9 million per year in annual fees.

 

 

Rydex
$6.0 billion in AUM
$24 million in estimated fees
Largest ETF: Rydex S&P Equal Weight ETF (NYSE Arca: RSP), $1.6 billion

Rydex’s ETF efforts seemed to lose steam when the company was sold to Security Benefit in 2007. The company hasn’t launched many new successful funds since then, and has not been particularly aggressive in marketing its existing funds to investors.

Still, Rydex has two crown jewels: the $1.6 billion Rydex S&P Equal Weight ETF (RSP) and the hugely successful CurrencyShares lineup. The CurrencyShares account for $3.1 billion of Rydex’s $6 billion in assets under management, and hold unique niches in the ETF space (there are competitors, but not completely overlapping).

As a whole, however, Rydex has sat mostly still while other providers have eaten into its territory. The company needs to be a bit more aggressive if it wants to protect its franchise.

Barclays
$5.6 billion in AUM
$44 million in estimated fees

Largest ETN: iPath DJ-UBS Commodity ETN (NYSE Arca: DJP), $2.0 billion

Barclays has shown that, despite the credit crisis, investors haven’t entirely given up on exchange-traded notes. The leading ETN issuer has $5.6 billion in assets under management and booked $2.6 billion in net inflows in the first 11 months of 2009.

The company’s lineup is led by the $2.0 billion iPath DJ-UBS Commodity ETN (NYSE Arca: DJP) and the $1.2 billion iPath MSCI India Index ETN (NYSE Arca: INP). Unfortunately, at press time, INP had stopped creating new shares after Barclays ran afoul of reporting requirements with the Indian stock exchanges. It remains to be seen whether that stoppage pushes investors into alternate Indian equity products.

Still, all in all, the future looks bright—perhaps surprisingly so—for Barclays. More investors are realizing the tax benefits of the ETN structure in the commodities sector, and concerns about credit risk will subside. Meanwhile, the company is pushing forward with new and innovative products, such as the novel long-term leverage ETNs it launched in November.

Who's Winning The ETF Race?

 

Direxion
$5.1 billion in AUM
$48 million in estimated fees
Largest ETF: Direxion Daily Financial Bull 3x Shares (NYSE Arca: FAS), $1.3 billion

After Vanguard, Direxion had the most impressive year of any ETF company in 2009. It wasn’t even in the ETF business two years ago, but Direxion is now the 12th-largest ETF company by assets and the seventh largest by revenues. Its family of triple-leverage ETFs pulled in $5.7 billion in inflows for 2009 through November, the fifth-largest amount of any company.

If Direxion has a problem, it is the performance of its funds: As of Nov. 30, it had only $5.1 billion in assets under management, about $600 million less than it received in inflows for the year.

Still, Direxion isn’t going away. Investors like triple leverage, and the funds are increasingly well-traded. Look for strong inflows to continue.

Claymore
$2.7 billion in AUM
$18 million in estimated fees

Largest ETF: Claymore/BNY Mellon BRIC ETF (NYSE Arca: EEB), $1.0 billion

Like PowerShares, Claymore is a bit of an odd bird in the ETF industry. It has a number of highly successful and interesting products, but they all operate on the fringes. While it’s a strong player in the satellite parts of people’s portfolios, it hasn’t been able to tap into the core.

The closest it comes to a core holding is its highly successful Claymore/BNY Mellon BRIC ETF (EEB), a $1 billion fund that some investors use for core emerging markets exposure. After that, its largest funds, in order, are a Chinese small-cap ETF (NYSE Arca: HAO), a water fund (NYSE Arca: CGW) and a solar energy ETF (NYSE Arca: TAN).

Recently acquired by Guggenheim, the big questions facing Claymore are now where it will take its franchise and how aggressively Guggenheim wants to invest in its new asset.

 

 

First Trust
$1.7 billion in AUM
$11 million in estimated fees

Largest ETF: First Trust ISE-Revere Natural Gas Index Fund (NYSE Arca: FCG), $405 million

First Trust is a case study on how hard it is to build a core offering in the increasingly crowded ETF universe. The company offers a complete portfolio of quant-driven core products under its AlphaDex brand, but despite good recent performance, the funds have attracted little in the way of assets. As of Nov. 30, the largest AlphaDex fund had just $32 million in assets.

That’s left First Trust, like Claymore, nibbling at the edges. The firm’s largest fund is the $405 million First Trust ISE-Revere Natural Gas Index Fund (FCG), largely a corollary play for investors who sought an alternative to the besieged U.S. Natural Gas ETF earlier in 2009. Asset counts fall off from there.

First Trust needs to figure out a way to win investors over to its AlphaDex brand, and soon.

The Challengers

Together, the 14 firms covered above hold 99.2 percent of all ETF assets and earn 98.5 percent of all ETF fees. That leaves 21 additional firms fighting over less than 1 percent of investor assets, or more accurately, jockeying for position to grow.

Some of these smaller providers have big plans. Schwab, for instance, burst onto the scene this year by offering the lowest-cost ETFs on the market as well as free trading for all Schwab customers. While the Schwab ETFs have less than $200 million in assets right now, that number is sure to grow significantly in 2010. Look for Schwab to enter the top tier of ETF providers in a handful of years.

Another potentially big player is Pimco, which had about $430 million in assets scattered among nine funds as of the end of November. The company is planning an aggressive product rollout and, given its size, reach and reputation in fixed income, will likely attract significant assets in the years to come.

Other companies with big dreams for 2010 include ETF Securities, which is a dominant player in commodity ETFs in Europe with hopes to replicate that success in the U.S. IndexIQ, meanwhile, is betting that its line of “hedge fund replication” ETFs will eventually take off, while Emerging Global Shares is hoping investors will embrace its super-narrow emerging market sector funds.

Not all of these small-cap companies will make it. You might expect as many as half of these companies to disappear from the ETF scene over the next three years. But hidden among them also is probably a hidden gem, just waiting to catch fire and burst toward the top of the tier, as formerly small players like Van Eck have done.

It will be interesting to watch.

 

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