Worldwide assets held in exchange traded funds surge to reach a record $6 trillion

Total assets in exchange traded funds jumped to a record $6 trillion (Dh22.03tn) globally by the end of October to doubling in size in less than four years, independent research and consultancy ETFGI found.

Global ETF asset growth as of October 31 surpassed the $2.89bn levels of 2015, according to ETFGI, based in London. The massive growth of the ETF industry is raising regulator concerns over their widespread use across financial markets worldwide.

“Regulators are concerned if regulations are fit for purpose given the growth in assets and types of ETFs,” Deborah Fuhr, managing partner and founder of ETFGI, told The National. “They are monitoring the situation.”

The global ETF industry has 6,919 ETFs with 14,326 listings and assets worth $6tn from 400 providers on 68 exchanges in 57 countries as of October 2019.

An ETF is a type of investment fund that can be traded quickly and easily, similar to stocks and shares. They come with no upfront costs apart from the brokerage’s dealing charges and annual fees, which are far lower than traditional mutual investment funds. There is no fund manager deciding which stocks and other assets to invest in; instead they passively track their chosen index, country, region or commodity, regardless of whether it goes up or down.

“ETFs reached $6tn as they are a very useful financial product – simple, cost efficient, transparent, with low minimum investment size,” Ms Fuhr said.

“Listed and traded on exchanges like a share in the US, ETFs are more tax-efficient than mutual funds. Initially an index product – which is still the majority of the assets

– ETFs are used by many investors that find it hard to locate active funds that consistently deliver alpha.”

The use of ETFs in the Middle East is still “much lower” than in Europe and Asia, she added.

Global ETF assets are poised to more than double to $12tn by the end of 2023 and may reach $25tn by the end of 2027, BlackRock said in a May 2018 report.

“Lower-cost, diversified ETFs will increasingly be used by self-directed retail investors and sophisticated institutions alike as core broad market exposures,” BlackRock said.

The five largest ETF providers are BlackRock’s iShares, Vanguard, State Street Global Advisers, Deutsche Bank X-trackers and Invesco PowerShares.

While the best-known ETFs track major indexes such as MSCI World, the S&P 500 and FTSE 100, it is possible to invest in specific countries or regions, large, medium or small companies, government bonds, gold, crude oil, cocoa, water, carbon, cattle, corn futures, currency shifts or even a stock market crash.

Listed and traded on exchanges like a share in the US, ETFs are more tax-efficient than mutual funds DEBORAH FUHR ETFGI founder

Sometimes death is a sign of life. The exchange-traded fund industry buried its 1,000th product this year as the number of victims is growing almost as fast as new products hitting the market. This is obviously bad for the issuers of the deceased funds, but this Darwinism should be regarded as healthy and natural in a thriving – albeit brutal – market.

On the practical side, the victims are often thinly traded products that tend to have wider spreads. They can be costly and even dangerous if an investor puts in a market order at the wrong time. There are still about 400 to 500 of these so-called zombie ETFs in the market – many of which should arguably be put down for the betterment of all investors.

In a more philosophical sense, ETF deaths should be celebrated because the market is determining winners and losers based on merit. This is somewhat in contrast to mutual funds, many of which have props to help them grow assets, such as distribution fees, and a big base of assets that grows with the market.

This year alone, active mutual funds have grown assets by a record $1.7 trillion (Dh6.24tn) despite almost $200 billion in outflows. This is the magic that happens when you have $11.5tn in assets and the market is up 25 per cent. This “bull market subsidy” translates to about $70bn of new assets and $400 million in new revenue every time the market goes up 1 per cent. This is hugely helpful to stave off death. That said, mutual funds do have their fair share of liquidations, and I’d imagine those will pick up if/when the bull market subsidy turns into a bear market tax.

Without any of the mutual funds’ aids, ETFs are left to get all their assets the hard way – appealing to cost-obsessed, after-tax, picky advisers and do-it-yourself investors. It’s a tough place to live, but it’s where most of the new investor cash is going. That means new launches will remain abundant despite the rising death toll.

These new launches, however, are becoming more mindful about what products get through to market – the increased closures effectively tighten the filter. You have probably noticed the number of “I can’t believe they launched that” type of ETFs has died down. What Ben Johnson of Morningstar calls “the spaghetti cannon” has become more like a spaghetti rifle. A little wild and crazy, however, can be a good thing as it is all part of the innovation that makes the ETF industry the Silicon Valley of the investment world.

Companies are learning from what failed. Global X, for example, has closed more than a dozen ETFs over the years, including funds that tracked waste management and fishing (which is probably my all-time favourite dead ETF). Those closures were a lesson that just following a niche industry or theme wasn’t enough – it helps if it is in a highgrowth or disruptive area. Global

X has since introduced successful robotics, FinTech and cloud computing ETFs.

It is sometimes tough to tell the difference between future hit and dud. I remember a colleague mocking the China internet ETF when it launched in 2013 for being so ridiculously narrow. It’s more than $1 bilion today and has inspired a mini-category. On the flip side, Legg Mason launched a more traditional-sounding “diversified core” equity ETF, and it closed three years later.

Closing an ETF used to carry a stigma until industry leader BlackRock started to make routine closures about seven years ago. This opened up the floodgates, increasing both the number of closures and the average size of the closure, which jumped from $15m to $30m pretty much overnight.

Although there is no risk of the investor losing their investment in the fund if an ETF closes, the liquidation does have the potential to trigger a taxable event. That legit closure risk is another reason it’s so hard for smaller products to get off the ground.

That brings us to fees, which is the single biggest determinant of whether an ETF will die or not. The average fee of a dead ETF is 0.65 per cent, above the industry average of 0.5 per cent but more than triple the asset-weighted figure of 0.20 per cent and more than six times above the flow-weighted average fee of 0.11 per cent. This is different from mutual funds or hedge funds where poor performance is usually the cause of death.

The average lifespan of a dead ETF is a mere 3.4 years – slightly less than an NFL running back’s career. This is a tough stat when you consider that about 95 per cent of the revenue goes to products more than five years old. In other words, patience is key, but it can be too much to bear in many cases. And sometimes it’s just best to say goodbye.