What role would you say active ETFs are playing in the progression of the asset class?
Active is a game changer and it’s going to broaden the audience yet again for the product set. It’s going to disrupt the traditional mutual fund market and I truly believe it’s going to position ETFs as the wrapper of choice for managers. What’s particularly notable is the willingness of big asset managers to launch their latest active strategies in an ETF wrapper. For me that means that every asset manager is going to need to have a clear strategy of how they’re going to respond.
From an investor perspective, the question is why wouldn’t you want an ETF when ETFs represent, in many ways, the latest fund technology at a more competitive price point. For example, you have the ability to see – on a daily basis – what your underlying exposure is, you have the ability to trade intraday with anonymity and you have the ability to quickly onboard the product without having to do a full RFP.
We’re already seeing a clear preference for ETFs in the data. If you look at 2023, you had inflows into ETF wrapped products of around $600 billion versus outflows of $400 billion (per EFPR) for non-ETF wrapped products. The availability of active strategies within the ETF wrapper is only going to accelerate and reinforce that trend.
What would you say is the reason behind significantly different volumes in the US versus the UK and the EU?
They are dramatically different partly due to the size of the market, and partly because of who and how the product is being used. To put that into context, last year in the US there was total traded value of $37 trillion worth of AUM, and that was on approximately $9 trillion worth of AUM, which means that those assets were being turned four times. If you look at Europe, there was a trading value of $2 trillion on approximately $1.9 trillion of AUM, (per Bloomberg, FlowTraders) – so those assets are only just turning over once. Therefore, you have a bigger market, but you’ve got a much more traded market in the US compared to Europe.
A big driver of that is the large retail usage of ETFs in the US. It’s already a bigger market, but the split of that market is much more evenly institutional and retail. There’s a much more trading-focused mindset in how they’re using the products, whereas the institutional client base, particularly in Europe, is much more around strategic asset allocation and tactical asset allocation, which doesn’t have the same trading velocity.
This manifests into the number of ETFs in the US that are ‘trading vehicles’ due to their size and average daily trading volume. There’s a much bigger universe of those products in the US than you’d find in Europe.
What are the key impacts of fragmentation on ETFs?
Fragmentation’s main impact is that it’s very hard for investors to get a true representation of what the actual liquidity is for ETFs in the European market and that has led to a perception – which I would argue is incorrect – that the European market is not liquid. This has stopped new clients adopting European ETFs and has led some clients to trade ETFs listed in the US, rather than ETFs listed in Europe, even with the fiscal benefits and unique exposures that European ETFs can bring. Overall the fragmentation has constrained the growth in client usage of the product.
From a market making perspective, it also adds another level of complexity. Some of this has been resolved with the international settlement model, but each different listing of an ETF can have a unique settlement location which means when you’re transacting with clients in different regions you may need to realign these positions. From an ETF Issuers standpoint, they have to list different versions of their ETF in multiple locations, which drives cost and the need for additional controls to satisfy regional requirements.
What lessons can be learnt from the US?
An important point about the US is that there are simply structural advantages of that market which we cannot emulate, however there are some specific learnings that can really help and are already being ported across.
On the client side, we have the innovation that’s currently happening around retail which is appealing to the next generation of investors. Itis great because that’s where there’s going to be this huge passing of wealth.
On the product side, there are underlying ETF strategies that have proved themselves in the US market and can be equally successful in Europe. The most recent examples that I would point to are options-based strategies that have translated really well here. There is also the evolution of Active which began in the US and is starting to take shape in Europe.
On the regulatory side, there are many parts that we can’t adopt due to regional nuances and the politics of getting things done in Europe, but there are some specific items like the consolidated tape that would be a great initial step in helping with the fragmentation issue.