Big for 2024? Concentrated ETFs, Natixis Says

Nick Elward, senior vice president and head of institutional product and ETFs at Natixis Investment Managers shares insights on how predictions for ETF investors turned out in 2023 and discusses the top trends expected for 2024.   

As 2023 comes to a close, we consider the ETF investment landscape and identify compelling trends we’ll be watching for 2024.   
 

First, let’s recap how our 2023 predictions panned out:  

1. Strong Investor Flows Into Fixed Income ETFs Continue 
   Fixed-income ETFs sold strongly throughout 2023 and are on pace to exceed 2022’s net flows. This is despite mid- to longer-duration fixed-income ETFs performing below long-term historical averages. In contrast, equity ETFs saw outflows at mid-year and are in jeopardy of trailing net flows totals for both 2022 and 2021.
2. Many Active ETFs Outperform
   While data is mixed, some active ETFs showed strong relative results vs. indices and category averages. According to the latest SPIVA report, about 90% of large-cap growth funds beat their indices over a one-year period ending 6/30/2023, while most funds in several other categories underperformed over the same period.
3. Options Overlay ETF Assets Grow
   Asset growth in the options income Simfund category continued to impress in 2023, increasing from about $45B at the end of 2022 to about $69B at 9/30/23, attracting around $22B in net flows year-to-date through 9/30/23.1 

2024 Trends 

Three trends stand out to us for 2024 (including a holdover from 2023): 

Persisting Options Overlay ETF Asset Growth  

After a strong 2022 and 2023, we expect continued investor interest in options overlay ETFs, despite being relatively new to market. Only a handful have a 3-year track record, with most launching in 2023. In our view, investors’ desire for high income payouts will bring more buyers into this space, given these derivatives income products have a very high distribution rate.  

We see a few key attractive subsectors within the options overlay type category. For one, options income products have appealed to investors since they distribute an attractive stream of income, typically driven by writing calls on equities. While these ETFs give up some equity market upside in return for the income generation, investors like the relatively stable derivatives income, perhaps as an income diversifier to their fixed-income ETFs.  

Risk buffering ETFs do just as the name suggests—mitigate the ETFs’ volatility; this is particularly attractive given investor concerns about market volatility and possible recession, which would negatively impact equity markets. By combining long exposure to stocks and options securities, investors may come to expect a predictable range of performance expectations. We expect continued interest in both of these options overlay categories.  

Concentrated Equity 

As we speak with advisors and investors across the country, we’ve heard increasing interest in concentrated equity investing. Investors want their active managers to take decisive bets on their top ideas. Concentrated investing isn’t new among mutual funds, but with increasing numbers of active ETFs launching of late, we are seeing more of these ETFs becoming available to investors.

A concentrated portfolio construction approach has the potential to empower experienced active managers to deliver above-average returns while ensuring effective risk management. By maintaining a philosophy that is discriminatory by definition, these active managers only include best-in-class securities on which their teams have conducted in-depth, fundamental analysis. As Warren Buffett has stated: “Diversification may preserve wealth, but concentration builds wealth.” This rings true for active managers who trust their rigorous stock selection process and deeply understand the businesses they own.  
  
Short-Duration Fixed Income   
  
With short-term interest rates at near multi-year highs in 2023 and strong yields expected in 2024, we expect institutional and retail investors to continue allocating to short-duration bond ETFs. It’s a simple story for three compelling reasons:  

• Seeking attractive yield. Appealing to short-term and conservative investors as well as those concerned with 2024’s equity markets. 
• Potentially Lower risk. With their low duration, these products mitigate interest rate risk. With uncertainty about the direction of rates in 2024, some are favoring remaining short.  
• Maintaining flexibility. Until equity markets stabilize and inflation comes more in line with long-term trends, some investors prefer to keep their assets in short-term, liquid investments, allowing for quick, tactical rotation to other investments as opportunities arise.