Research from Thomson Reuters Lipper found that, across 107 global asset class classifications, 75 of the categories displayed a directional divergence in net flows between active mutual funds and ETFs listed in Europe. According to Lipper, the figures showed that ETFs are gaining a greater relative share of assets in categories covering efficient markets while investors are still preferring active funds over ETFs where market inefficiencies present opportunities.
New research from Thomson Reuters Lipper shows flows into ETFs are outstripping those into traditional active funds, particularly where the underlying market is considered more efficient.
“That is, actively managed funds should be able to take advantage of the inefficiencies and earn a premium compared to their passive peers, or the other way around if a sector or market is considered efficient,” the report read.
The European fund industry gained €268.7bn in 2016, pushing total assets to €9.4 trillion, an all-time high. The asset-gathering was below 2015 and 2014, which saw inflows of €368bn and €351bn respectively, but was far above the long-term average.
A closer look at the numbers shows that money market products and ETFs dominated the bulk of those inflows, with ETFs gathering €41.1bn and money markets gaining €110.7bn.
An area where investors clearly favoured the ETF vehicle was equities where investors pulled €43.7bn from active funds and ETFs gained €15.5bn. According to Lipper, the inverse directions of passive and active flows for this segment highlights the impact of ETFs in stealing assets from the traditional active management industry in efficient markets with greater analyst coverage.
“Looking at the overall fund flows for the equity segment (-€28.2bn), one may conclude that European investors have become more risk cautious and have reduced their positions in equities,” Lipper’s report read. “A more detailed view may lead to the assumption that European investors have made a decision against actively managed equity funds and seem to favour ETFs instead.”
Equity ETFs can be used for both tactical and strategic positioning, and allow investors to trade in and out of their positions quickly with relatively low spreads. Active fund investors are not able to redeem money instantly. With Brexit and the US election looming in 2016, investors may not have wanted to bet on stocks rising.
But since Brexit and the election of Donald Trump did not cause lasting turmoil, political uncertainty does not provide the whole picture. Investors might have reduced strategic exposure to active funds before the Brexit vote in June and the election in the US in November, and then bought back into these markets via passive funds to take profits.
“This would mean European investors did not necessarily prefer ETFs by default,” the Lipper report read. “Rather, they made a tactical asset allocation decision and used products suitable for short to medium-term trading, instead of buying into products with a long-term investment approach that may have not delivered a good market return over the short to medium-term horizon.”
Indeed, with many passive equity indices reaching record highs recently, these strong returns have been reflected in a wide range of ETFs. The MSCI All Country World Index reached its highest level in 23 years this week. US stock markets, including the Dow Jones Industrial Average, the S&P 500, the Nasdaq Composite and the Russell 2000 Index, set all-time intraday highs last week.
ETFs are also relatively cheap. According to a Goldman Sachs analysis, a typical European equity ETF costs 0.29%, around half of traditional equity active funds.
The Lipper report concluded that although it is too early to call firm conclusions, ETFs present a “threat” to active funds, especially as market efficiency improves. Increased flows into ETFs will benefit investors by improving competition, lowering fund costs and placing further scrutiny on active fund performance.