Win The Future | Why Asset Managers Need An ETF Strategy
future is spelled with e-t-f
ETF assets grew by an unprecedented
40% over 2017, accelerating
significantly faster than the U.S. market
for the first time on record. By the start
of 2018, there were more than~$4.8 Trillion of institutional and retail assets
invested in ETF, much of that market share won from traditional mutual funds across the world.
data underscores the scale of this subtle revolution, revealing that ETFscontributedanincredible€23.1 Billion totheoverall€35 Billion of European fund flows in February,
2018. This land grab is all the more impressive considering that ETFs are dwarfed by the $47.4 Trillion of
global assets that ICI estimates
are held in mutual funds– funds which
have benefited from over 100 years of promotion and distribution in a market with historically high sales incentives, poorly informed
consumers and few competitors.
European ETF AUM $US Bn
European ETF Asset Growth: Source ETFGI
growth in the European ETF market
is likely to be the ‘new normal’ as, after just
20 years of existence, ETFs find themselves superbly positioned to take advantage of a convergence of mega-trends that
are driving changes in investor behaviour and the delivery of investment and wealth management solutions.
asset managers are remodelling their businesses to adapt to these trends, recognising the important role that ETFs will play in determining future success and driving growth.
Trend 1 – Self Directed Investment / Empowered Investors
The first trend is the global shift towards self-directed saving and investing.
In the UK alone, an estimated 1.8 million people have invested over
Billion in a Self
Invested Personal Pensions (SIPP), many of which are ETF users as are investors in other personal savings
products such as ISAs which can also
yesteryear, investment products in Europe were predominantly distributed through banks
and advisors who received kick-backs from fund providers. This incentivised the
sale of high cost/ high commission products
and put the interests of investors after the compensation of the salesperson. With less reliance on intermediated sales processes and greater autonomy
in terms of fund selection, self-directed
investors are looking at ETFs and liking what they see.
ETFs have characteristics that make them extremely appealing to self-directed investors and highly competitive compared to traditional mutual
funds. ETFs are transparent and the underlying strategy and daily holdings can be easily understood and compared.
This is in contrast to many mutual funds that only tend to reveal their top 10 holdings - and then often on a delayed basis. ETFs are often referred
to as “democratic” investment products – the individual investor gets the same fund, the same information and the same trading optionality as
an institution – so no special share classes, no special treatment, no information imbalances, just a level playing field.
ETFs are also cost efficient and generally have low minimum investment thresholds, making them an accessible option for even small retail
investors. As retail platforms and brokerages widen the availability of fractional trading – buying a portion of a share of an ETF to ensure all sums
are invested at all times - barriers to participation are lowered even further. This inherent flexibility is further enhanced when trading is considered – ETFs are able to be traded intra-day enabling investors to quickly enter or exit positions without the hassle and delay of once a day pricing
and a T+1 or T+2 settlement cycle.
Trend 2 - Regulation, Transparency & Icebergs
Regulators in Europe are keeping pace with increased ETF investor participation by improving the quality, timeliness and transparency of information available. For example, MiFID II reporting requirements enable investors to better understand the level of trading activity in European
ETFs – for despite the ‘E’ in its name, the European ETF markets had seen about 2/3rds of trading occur in opaque, bilateral over-the-counter
Prior to MiFID II there was no requirement for European ETF trades to be reported, meaning investors could only view the tip of the iceberg relative to the real level of underlying activity. Under MiFID II European ETF new trade reporting requirements investors can finally gain a complete
view of the breadth of ETF trading activity across all European venues.
This is an important development because liquidity begets liquidity. In this case, the comparative lack of transparency is often cited as a reason
why some European investors had not participated in ETF markets on the scale they otherwise would.
It was a case of ‘information under load’. Deprived of an aggregated view of trading volumes, European investors perceived a far less vibrant, far
smaller, less energized market than really exists. Unimpressed with the view, some looked across the Atlantic for the liquidity they could not see
Revealing the breadth of European ETF market activity and volumes should mean that European investors have less incentive to look abroad for
trading efficiency and can begin to repatriate liquidity back to domestic markets. Add to this the convenience of local trading hours and European-listed UCITS ETFs should stack up well versus their US cousins which don’t start trading until the European afternoon.
Trend 3 - Fees & Value
As individual investors take more responsibility for their own portfolios, they are understandably focussed on costs, fees and value. The move
towards “all-in” fee disclosure under MiFID II is predicted to make it easier for both institutional and retail investors to understand and compare
fund charges. This is likely to be a boon for ETFs that are typically priced at far lower levels than traditional funds with equivalent exposures. For
example, according to Hargreaves Lansdown, the Virgin FTSE All-Share Tracker Fund has a net ongoing charge of 1%, in contrast the Vanguard
FTSE UK All Share Index ETF, which provides exactly the same exposure, at an ongoing charge of just 0.08% .
With the information to compare the costs of core portfolio exposures such as FTSE 100, MSCI Emerging Markets or S&P 500 on an applesto-apples basis, investors can judge the most cost-effective means to obtain the exposure they want and switch to the option that provides the
greatest value for money.
Why buy an apple for £1 when you can buy one from the next stall for 10p?
Intense media coverage of asset management fees has led many investors to examine the attritional impact of high fees on long-term portfolio
returns – a few extra basis points in fees can cost £100,000’s over an individual’s lifetime investment journey and £1,000,000’s of assets to
an institutional portfolio. If investors were confident that these fees represented good value, there wouldn’t be an issue, but more awareness
of active under performance and benchmark hugging has meant that many investors are declining to pay for consistent failure or expensive
tracking. To paraphrase Churchill, “Never has so much been paid to so few by so many for so little result.”
Industries like telecoms, utilities, media, airlines and fashion are already easy to cost compare - it’s fast and straightforward to find the best price
for a broadband package, set of golf clubs or a LHR-JFK flight. All things being equal apart from price, do you care if you fly BA or Virgin? Many
travellers say no – just get me there safely, on time and at the best price. Investment products will increasingly be judged and selected in a similar
way. This is great news for managers with unique IP and strong track records, worse news for the closet trackers and performance laggards.
With more product choice than ever, European ETFs provide a range of low-cost core building blocks, thematic twists and active strategies
to build a huge range of portfolios. ETFs are superbly positioned to be big winners in an age where value-for-money is under the spotlight and
comparisons between investment products are straightforward to perform.
Trend 4 - Technology & The Distribution Revolution
“Etfs Continue To Take Market Share Away From Other Products, And Firms Will Either
Have To Launch Etfs Or Create Other Investment Vehicles Which Are Competitive With
The Performance, Tax Efficiency, And Costs Of Etfs”
Pwc, Etf 2020: Preparing For A New Horizon.
Across Europe and the majority of the developed world, Millennial's are poised to be the recipients of the largest generational wealth shift in
history - inheriting the assets of their baby boomer parents. With trillions of dollars preparing to change hands within the next generation, asset
managers who seek to remain competitive will need to understand the expectations of Millennial investors.
The Millennial generation do not shop like their parents did, they do not consume media like their parents did and they will not invest like their
parents did. They are used to a personalised ‘on-demand’ world where immediacy and responsiveness are valued and where purchasing
decisions are informed and influenced by online peer reviews and a broad range of expert voices. Intermediated products from high-cost,
low-service providers are ill-suited to the browsing and selection behaviours of this demographic - this may be why in 2017, more than 50% of
Millennial investors said ETFs were their investment of choice .
As a new generation emerges that values simplicity, ease of use and immediacy, technological advancements are bringing ETFs to a wider
audience in a way that aligns with their needs. ETFs are now widely available on European retail brokerage platforms, bank D2C platforms and
mobile trading apps. ETF model portfolios and fractional trading have made it easier for investors to begin building a diversified portfolio – often
at a very competitive cost compared to traditional funds and portfolio services.
New companies are also emerging to provide packaged ETF-based solutions for a new generation of investors. Retail brokerages, ROBO advisors and round-up payment cards are increasingly providing ETF-based model portfolios and wealth management services. These next
generation asset allocators are growing in importance - there are now close to 100 ROBO advisors in Europe and many are now ETF-only,
leveraging the inherent tradability, transparency and cost-effective exposure that ETFs offer.
Not "Should I Launch?", But "How Do I Launch?"
This convergence of trends means that asset managers adopting a ‘business as usual’ frame of mind stand to lose the future. Without an ETF
offering their products risk becoming irrelevant to the next generation of investors and unfit for use in modern distribution technologies – the
Wall Street equivalent of the VHS rental store in the age of Netflix. The end result of such lack of vision will be watching their asset base drained
off by more forward-looking and nimble competitors.
The largest asset managers understood the ETF opportunity early on- 17 out of the top 20 largest asset managers in the 2017 IPE survey
already offer ETFs with others preparing to launch products in the near future. The 2017 EY Global ETF survey gave further reason to expect a
more diverse and competitive ETF industry, reporting that 67% of respondents believed that most asset managers will provide some type of
ETF offering by 2022 .
| Ipe Rank
||Offers Active ETFs?
||State Street Global Advisors
||Goldman Sachs Asset Management
||Legal & General
||Yes (via Canvas)
||Yes (via Virtus)
||Yes (via Flexshares)
||T Rowe Price
||Deutsche Asset Management
||AXA Investment Management
There are fewer and fewer active strategies that cannot be replicated in an ETF format and all but the most illiquid asset classes such as physical
real estate are within reach of ETF issuers. This means we are likely to see more active ETFs, including non-transparent ETFs, come to market
with ‘active-like’ fee structures that include performance fees or high water marks. Asset managers need to develop their ETF strategy rapidly
as it’s not far-fetched to imagine that almost all mutual fund strategies will have been translated into an ETF format within the next 15 years.
Active Managers & ETFs
The scale and rapidity of ETF growth is such that they have become a factor that fewer and fewer asset managers can afford to ignore. The
question in many boardrooms has changed from “Should we launch ETFs?” to “How do we launch ETFs and what do we launch?”
Asset managers considering launching ETFs may view ETFs as synonymous with ‘passive’ (index-tracking) investing. There is some justification
for this idea as the majority of assets today still sit in plain-vanilla, market capitalization weighted equity ETFs - this is great for investors who want
low-cost core beta and great for the funds who got to market early and gathered assets.
But perceptions are evolving and active managers are less likely to view ETFs as competitors, instead viewing them as a valuable technology
for distributing investment ideas in a market characterised by changing regulation, technology and investor expectations. Active ETFs are
nothing new - they have been available in the U.S. for over a decade and the European market is starting to move in the same direction with a
flurry of active equity and fixed income strategies, previously available as mutual funds or separately managed accounts coming to market in an
additional ETF format.
It’s worth pointing out that many of the largest ETF issuers on both sides of the Atlantic have well-established active asset management
businesses too. The lessons of the U.S. show that traditional active fund managers can be extremely successful in leveraging their existing
research and product development capabilities to provide ETFs that sit alongside their active fund ranges and act as alternative distribution
mechanisms for key strategies.
These developments have helped ETFs to be re-understood as a universal fund distribution proposition, relevant to active and systematic asset
managers, as opposed to a proxy for index investment. Indeed, asset managers increasingly see ETFs as way to extend and modernise their
distribution strategy, breathing new life and extending accessibility of existing funds or flagship strategies in the modern digital fund distribution
Three Routes to Market
For the asset managers asking “How do I launch ETFs?”, there are three options: 1) build their own business from the ground up 2) acquire an
existing business or, 3) partner with a white-label platform. There are pro’s and con’s to each approach:
Building a European ETF business from scratch can be a time consuming and expensive exercise –24 months or more are needed to establish
a team, build a fund platform, perform product R&D, develop marketing strategies and formulate sales plans. There are also significant
overheads to consider in terms of staff, office space and legal fees. All in, an asset manager could spend between £5-£10 Million before a penny
of assets are raised.
Asset managers that want to build their own business also face a steep learning curve in terms of a building a specialist ETF architecture and
expertise required in capital markets, product management and distribution strategies – all of which function in a very different way to mutual
funds. While companies with large scale and extensive resources may be able to commit to this level of investment, this route may not make
sense for firms with fewer internal resources or those that want to launch a smaller ETF product range.
Many companies have launched ETFs in Europe and then failed to raise assets as they did not fully appreciate the specific complexities
of European ETF distribution or believed they could sell ETFs in the same way as mutual funds – these often proved to be expensive and
embarrassing mistakes. For these reasons, build-your-own is a high commitment, high risk and high cost approach that is open only to large
companies with significant time and resources to commit.
Buying entry to the market is also likely to be a high commitment and high cost approach – on the assumption that a suitable target can be
found. In Europe, there are few takeover targets remaining to make this route to market seem appealing or possible. Buying up a third-party
fund range also comes with the potential difficulty of buying up products that could conflict with a managers’ core offering or future strategy.
Reliant on chance and opportunity, this approach cannot be utilised by the majority of asset managers and does not provide capacity for many
If building is too expensive and buying too difficult then asset managers can look at a third option – full service white-label ETF platforms.
A white-label platform, like HANetf, can enable any asset manager to launch an ETF without having to build their own ETF business from scratch.
By providing the complete regulatory, technological and distribution infrastructure necessary to bring funds to market, white-label platforms
make it faster, more cost effective and simpler to launch ETFs, whilst retaining the brand identity and investment skills of the underlying asset
Almost any asset manager – indexed, systematic or active – can bring their investment IP to a white-label ETF platform to get a product
launched, but it is important to note that not all white-label platforms provide the same combination of services. Some platforms merely provide
the regulatory and operational infrastructure to manage ETFs.
Other platforms, like HANetf, take a different approach, providing a comprehensive service that goes beyond launch to provide ongoing sales,
distribution and marketing programs. With a full-service offering, asset managers do not need to establish their own platform, expert sales
teams, capital markets relationships, service provider relationships or marketing programs and can focus on what they do best – developing
and refining investment ideas.
Three Routes to European ETF Market Entry Compared
||High - €10’s Millions
| Product Range
||Need to launch many ETFs to justify investment
||Product range may not reflect purchase's core strategies
||Launch just one ETF or full suite
||Staff, office space, marketing
||Staff, office space, marketing
||Low annual fees
Embracing The Future
Asset managers who dismiss ETFs because “We are active and don’t do passive” are missing the point. The ETF is just a distribution technology
for any investment style or strategy. ETF growth continues to be propelled by strong regulatory, demographic and structural tailwinds, with the
European ETF market predicted to triple to $3 Trillion by 2020 . Clearly, there is a significant fee-base for asset managers to win, retain or lose.
Asset managers positioning themselves to compete for this growing fee base recognise that ETFs will be a core part of their future growth
strategy, but understand the challenge is not just launching an ETF but creating a sustainable long-term and successful ETF business.
Only the largest firms will be able to approach the complexity of the European ETF marketplace with their own in-house ETF offering and team.
Some firms will lack the internal resources to create their own business while others may only want to launch a smaller number of ETFs for
flagship strategies and funds and not have the scale to warrant the development of a standalone platform. The ETF opportunity is not just
limited to the largest companies who can dedicate years of time and millions of dollars of investment in starting an ETF business. ETFs are
democratic investment products and companies like HANetf are making it easier for asset and wealth managers of all shapes and sizes to
participate in the growth of the market and better serve their clients by removing the structural, commercial and operational barriers to entry
that they have encountered.
As trillions of dollars of assets migrate towards ETFs, we believe that every asset manager needs an ETF strategy – now.
Download the full whitepaper "Win The Future - Why Asset Managers Need an ETF Strategy" here.