Valerio Baselli: Hello and welcome to Morningstar. One of the latest trends in the European asset management landscape is represented by active ETFs. Such investment vehicles are attracting a lot of interest and gaining momentum among investors.
Today we will try to better understand their features with the help of Francesco Paganelli, strategist at Morningstar.
Francesco, I would start by asking you to briefly explain what active ETFs are, where and how they were born, and to give us the current picture of the European market.
Francesco Paganelli: Well, sure. I would say in a sense there is really nothing new under the sun, because active ETFs have existed already for years, but they’ve remained a niche in the broader ETF landscape until only recently, when they’ve gained a lot of traction. The thing is, while ETFs are often associated with passive investing, an ETF is in fact just a vehicle in which theoretically, anything can travel. And in this case, what’s inside the vehicle instead of a passive strategy that simply replicates an index, it’s a strategy that tries to beat the index. And we call that active.
Now let’s be clear. In Europe this space remains pretty small. So, active ETFs hold just over 2% of the overall ETF assets. But they’re well-established already in the US. And the market is growing rapidly, exponentially. And we are seeing a lot of activity in the space with more and more providers and new products coming into the market.
Baselli: Right. From an investor’s perspective, what are the main advantages and disadvantages of active ETFs, compared with traditional trackers, and also with actively managed mutual funds?
Paganelli: So, ETFs are only one type of investment vehicle that allows investors to acquire a diversified portfolio with the flexibility and accessibility of real time trading on an exchange, just like a stock, for example. And they’re also transparent and very often cost efficient. So, the structure is not really a magic bullet, though, because on some of the drawbacks and challenges of the ETF structure, really include the transparency point I just mentioned, for example. Not all firms are comfortable providing full transparency of holdings on a daily basis and giving away their secret sauce, so to speak. Also, ETFs cannot really say no to new investors, and they cannot close. So, they can’t really manage the so-called capacity risk the way a mutual fund would. Also, ETFs generally enjoy tax advantage over mutual funds in the US. And this is a key driver of flows you know across the pond that doesn’t really apply in Europe.
Baselli: Yes, that’s very true. What asset managers are currently in Europe at the forefront of developing and issuing active ETFs?
Paganelli: Sure. So, I think what’s really interesting is that we are seeing many new entrants in the space. It’s an expanding universe with more and more players joining the party in a sense. So, to give you a sense, we published our first European landscape paper in April this year, and since then the market has already changed a lot. That said, the list today includes firms with a large presence in the active management space, such as JP Morgan, for example, which takes the top spot in terms of assets under management, but also Fidelity or Pimco. But the list also includes large index funds providers such as Vanguard, which offers a range of active multi-asset ETFs in Europe that are slowly getting traction.
Baselli: In terms of single strategies, what are the active ETFs with biggest net inflows so far in 2024?
Paganelli: Well, I’d say in general it’s really interesting to note that while the market share in terms of assets, it’s still pretty low, active ETFs have captured a much higher chunk of inflows this year, which is not really surprising considering the surge in new product launched. That said, so far investors have mostly favored low costs equity offerings with limited tracking error, what we refer to as “shy actives”. And these also add an ESG overlay quite often, and also adopt quantitative or systematic investment processes, at least to some extent.
Baselli: Finally, what do you expect from active ETFs in the future? Are they more of a threat - if you can call them that - to traditional ETFs or to active managers, in your opinion?
Paganelli: I think that will depend on a number of factors, including the market and the asset class we’re going to look at. But it’s also quite difficult to make predictions because the market is still pretty young. What we expect, though, is that growth will continue, both in size and the number of options available. And this growth will likely lead to a more complex and competitive landscape. So, investors will benefit from having more choice. But they will also have to deal with the high mortality rate of active strategies, for example, and will therefore have to be more selective. So carefully evaluating the characteristics of each different strategy, now with more and more options available and differentiated products. due diligence will remain critical, of course, and as the market will mature, it will also be very interesting to see if investor’s expectations will be met and whether they will continue to favor the more diversified, lower cost shy active structures as opposed to the more traditional, concentrated, high conviction active strategies.
So, for now, also, we have mostly seen unique new strategies being launched in this wrapper, rather than ETF versions of existing strategies. And perhaps that will change in the future, and we will see a little bit of cannibalization. So, for example, we are already seeing some pressure on the strategic betas, which is an area of the market that’s been stagnating for some time now.
Baselli: Thank you so much Francesco for your time. For Morningstar, I’m Valerio Baselli, thanks for watching.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar's editorial policies.
