ETF M&A Heats Up

With more than 2,300 products now on the market, it's clear that unless you're BlackRock or Vanguard, simply showing up and offering an ETF isn't enough to attract investors.

That's why many small- and midsized ETF issuers have decided to acquire their way to growth. Over the past 18 months, firms like Invesco, WisdomTree and Global X have aggressively snapped up smaller or same-size firms to increase their invested assets, gain access to new markets and diversify their product offerings.

Even boutique issuers have done the same, with Pacer Financial, Alpha Architect and Roundhill Investments purchasing low-asset ETFs to broaden their lineup.

"We're on pace for record ETF inflows this year, but the rising tide hasn't lifted all boats," said Todd Rosenbluth, director of mutual and exchange-traded fund research at CFRA Research.

"A number of firms that have seen success are now finding opportunities to pick up existing products, presumably on the cheap," he added. "Meanwhile, smaller, independent issuers will have to decide whether they can survive long enough for the pendulum to swing back their way."

Brisk M&A Activity In ETF Industry

So far this year, FactSet Research has flagged 23 ETFs that have experienced or will soon experience some form of M&A activity, whether it's changing fund ownership, consolidation of multiple ETFs into a single fund, or even—in the case of the ETFMG Prime Cyber Security ETF (HACK) and the ETFMG Prime Mobile Payments ETF (IPAY)—being acquired as the result of a lawsuit.

Sources: ETF.com, FactSet; data as of Aug. 20, 2020

Although M&A activity concerning individual funds began to pick up roughly 18 months ago, ETF firms merging or buying one another have been a significant growth driver for almost a decade.

It all started in 2009, when BlackRock purchased BGI and its fledgling iShares ETFs division for $13.5 billion. Today $1.8 trillion is invested in iShares ETFs, making it the one of—if not the—most successful acquisition in the ETF industry.

In the years since, several other asset managers, mutual fund companies and insurance companies have purchased either ownership stakes in existing ETF issuers or purchased their ETF divisions outright.

For example, in 2018, Mirae Asset Management, which was looking to enter the North American market, purchased Global X and Horizons ETFs. (It retained the Global X name.)

In 2019, Victory Capital purchased the asset management operations of USAA, the financial services firm servicing the U.S. military and its families, in a deal that more than doubled Victory Capital's total AUM to $142 billion. The six USAA ETFs were rebranded to VictoryShares.

Plus, there have been acquisitions by Hartford, SS&C, Aberdeen, Legg Mason, Franklin Templeton … the list goes on.

Legacy ETF issuers have snapped up competitors, too. WisdomTree, VanEck and others have acquired smaller or same-size ETF firms as a way to grow their businesses.

Invesco has been especially aggressive: Over the past five years, it has snapped up PowerShares, Source ETFs, Guggenheim and OppenheimerFunds. Through these deals, Invesco has been able to maintain its position as the fourth-largest ETF issuer, even as Charles Schwab and First Trust nip at its heels.

’You're Going To Have To Buy ETFs’

So why has the ETF industry become so dog-eat-dog over the past decade?

For starters, mergers and acquisitions are a much easier way for new-to-market asset managers to gain access to the ETF industry than having to shell out the time or capital to launch their own products.

While the time and cost to launch an ETF in the post-ETF Rule world is lower than it was, it's still not unsubstantial. One ETF white label service recently estimated the cost of launching an ETF to be anywhere from $35-150K, with ongoing fixed operational costs of roughly $225K/year.

Garrett Stevens is CEO of Exchange Traded Concepts (ETC), another ETF white label service that focuses on thematic ETFs. ETC's business model centers around new-to-market players trying to enter the ETF space.

"If you're an active shop or an actively managed mutual fund company wanting a foothold, at this point you're going to have to buy ETFs, because you're not going to be able to be, say, third to market in a theme and expect to gain assets," he said.

ETC has seen some lineup shuffles of its own over the past eight months. One ETF, the Knowledge Leaders Developed World ETF (KLDW), shifted back to the control of the index provider, Knowledge Leaders Capital, which already had a number of mutual funds under its name.

In June, ETC won the competition to manage HACK and IPAY on behalf of Nasdaq, which in turn had regained its rights to the funds after a years-long lawsuit with ETFMG. (Read: "Control Of $1.4B 'HACK' ETF Changes.")

The acquisition will be a big deal for ETC, which currently manages roughly $3.6 billion in assets across 25 funds. Once the acquisition is completed, the $1.5 billion HACK and $780 million IPAY will roughly double ETC's assets overnight.

For ETF Issuers, Scale Matters

Another reason there's been so much M&A activity lately is that ETF issuers "are looking to pick up scale," said Sean O'Hara, president of Pacer ETFs.

"There's scale benefits to having 20, 50 or 100 ETFs at once," added Rosenbluth.

The more ETFs under one umbrella, the lower operational costs can become: With a board and fund servicers already in place and legal documentation already filed, the breakeven point on any given ETF can drop. (Read: "Launching An ETF Is No Cheap Endeavor.")

Even for large asset managers or fund companies, acquisition can still make sense, says Stevens.

"For a large firm, the time to get an idea to market is much longer; plus, you have to form a committee to study the investment case of the idea, and so on," he said. "It's easier for them to buy something with scale to it already, rather than start from scratch."

Distribution Is Critical

Distribution has been a key factor in whether an ETF or set of ETFs gains traction with investors, says O'Hara. While RIAs or individual investors may trade almost any ETF commission-free on their favorite brokerage platforms, many wealth managers operating via wire houses, like Morgan Stanley or Wells Fargo, are restricted to a list of approved funds. (Read: "When Advisors Can't Access Your ETF.")

"Even the independents are starting to become more restrictive," said O'Hara.

The larger a firm, and the more AUM in its funds, the more likely it can attract attention from wire house gatekeepers and be able to compensate them to appear on the platforms.

"It's not enough to put an ETF out on the market and then have billions of dollars show up. That's never been the case," said O'Hara.

Some firms have stronger in-house distribution resources than others, and they're often the most aggressive acquirers of individual funds.

For example, Pacer—which once told ETF.com its "No. 1 core strength" was distribution—has acquired several funds in the past 18 months. Last year, it acquired the Pacer American Energy Independence ETF (USAI), a midstream energy ETF focused on C-corps. Then in January, it acquired the Pacer CSOP FTSE China A50 (AFTY) from Hong Kong-based CSOP Asset Management, which was exiting the U.S. ETF industry. (Read: "Pacer Acquires CSOP ETF.")

Pacer also picked up the two Salt Financial ETFs, the Salt High truBeta U.S. Market ETF (SLT) and the Salt Low truBeta US Market ETF (LSLT); LSLT launched with a fee waiver that dropped its expense ratio into negative territory. (Read: "ETF That Pays You Debuts.")

"I get calls six or seven times a month from folks who have an ETF in the market that just isn't getting enough traction. Almost every time, they have no distribution footprint at all," said O'Hara. "We've picked up a few ETFs where we thought there was a solid story. We can take that product over, plug it into our distribution, and then be patient with it."

But, he added, "I tell people no a lot, too."

‘A Matter Of Survival’

For the acquiree, being acquired is often a matter of survival.

"There have been products that came to market that have been ignored, or with a marketing plan that was unsuccessful. They've just failed to gather assets. So at some point, you have to decide whether you want to close up shop or find a buyer," said Rosenbluth.

A larger firm can afford to close an ETF (or several) that aren't attracting assets, says Rosenbluth. But for a smaller ETF issuer with just one or two funds on the market, closing an ETF effectively exiting the ETF market—a hard thing to do for a product issuer that truly believes in the investment worthiness of its strategy.

"If you're a smaller, independent issuer, you've committed yourself to your products," he said. "So if instead of shutting down, you can become part of a larger ETF family instead of shutting down, then that just makes sense."

As long as the ETF industry continues to grow, and distribution remains a challenge, low-volume and low-asset ETFs will remain ripe acquisition targets, says Rosenbluth.

"Without naming names, I think we're going to see further shakeups," he added.

Contact Lara Crigger at [email protected]