Exchange Traded Funds still showing astonishing growth

The Exchange Traded Funds (ETF) market finished 2019 with more than $61 billion in assets across more than 200 funds, representing one-year growth of more than 50 per cent. That is made up of about half inflows of money, with the rest coming from the big rise in share markets.

A decade ago, the ETF market was worth just $3 billion and there were only about two-dozen ETFs available.

Exchange Traded Funds continue to prove popular with investors. Credit:James Davies

Most ETFs are "passive" investments, in that they track a market index or sub-index in Australia or overseas. They can also track prices, such as commodities, or even currency exchange rates.

Their units are traded in the same way as shares, so they are easy to buy and sell.

With management fees of well under 1 per cent, they are a cheap way for investors to access the returns of markets. They have been favoured by Self-Managed Super Fund trustees to as way to cheaply and easily diversify their portfolios, mostly into international sharemarkets.

Investment researcher Morningstar says in its latest ETF Investor report there is a trend toward more "active" ETFs being listed, but only a handful are attracting significant investor inflows.

Active ETFs have higher fees than their passive counterparts and Morningstar says many are struggling to attract "cost-conscious" investors, who are "also relatively unfamiliar with the concept of active ETF".

There is also some scepticism among investors as to whether active managers can outperform the market consistently, after allowing for their higher management fees.

Active managers often have to demonstrate superior performance before getting significant backing from investors.

As well as active ETFs, the other big growth area in the sector is what Morningstar calls "strategic beta," which is halfway between an active ETF and an index-tracking ETF.

The most popular and oldest strategic beta strategies are those that aim to provide exposure to Australian companies that pay the highest dividend yields.

However, more recently, the types of game plans employed by strategic beta ETFs have grown in variety and complexity. They include those that look for a specific factor, such as, for example, where companies have a competitive advantage, or a wide "moat" to competition, making it difficult for new entrants to take them on.

It is important to remember that strategic ETFs are not true index trackers. These seek to outperform the market by adding their own screens or overlays to markets in which they invest.

Strategic bets is just one name for them invented by the ETF marketing people. They also go by the names of smart beta, alternative beta, fundamental beta, advanced beta and enhanced beta.

There is little doubt that ETFs are going to continue to grow in popularity, but investors should be aware that active and strategic beta ETFs could produce returns that are different to the markets in which they are investing. If in doubt, seek professional advice.

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