Analysis of asset-weighted fees across industry reflect investor preference for lower costs
As U.S. investors ramped up their movements into passive investments during the first half of 2021, a small contingent of managers made inroads into the ETF space in hopes that a more tax-efficient wrapper would increase their strategies’ appeal. While that may be true, stock-pickers pushing into the ETF space may be facing an unanticipated source of competitive pressure.
In a new note, Elisabeth Kashner, vice president and director of ETF Research and Analytics at FactSet Research, cited data from her firm and the Investment Company Institute showing that in 2015, U.S. ETFs consisted of 99% passive strategies and just 1% active. But in 2020, the balance in the U.S. ETF space had shifted slightly to 9% passive and 3% active.
“A tiny but growing minority of U.S. investors are showing interest in actively managed ETFs to the tune of US$83 billion in of net inflows through June 30,” Kashner said. “That’s 16.7% of net U.S. ETF flows to a segment that comprises just 3% of the asset base.”
As active fund firms wade deeper into the world of ETFs, she said, they must make hard decisions about how to price their new ETFs. Though the impact of fee compression differs across subsegments – some now have expense ratios near-zero, while others have further to go – the need to slash fees is a harsh reality in an industry where investor cost-consciousness predominates.
Read more: Active ETFs continue to flourish while mutual funds suffer losses.
To illustrate the point, Kashner noted that by the end of June, active equity ETFs that had gained market share over the past six months had an asset-weighted expense ratio of 0.53%, while those that had lost share over that time had an equivalent cost of 0.72%
“In most of the broad market segments and U.S. small- and mid-caps, investors are making a dramatic show of preference for cheaper funds.” She said.
Among eight ETFs offering active exposure to developed ex-U.S. market equities, 41% of all flows went to the Dimensional International Core Equity Market ETF, which has an annual cost of 0.18%; another 44% went to the Avantis International Equity ETF with a price tag of 0.23%. In contrast, just 8% of flows went to four funds whose cost ranged between 0.59% and 0.83%.
Meanwhile, in the 104-ETF competitive field of U.S. total market and large-cap strategies, the cheapest quartile garnered US$3.5 billion in the first half of this year, while the priciest quartile took in less than a billion.
“There’s plenty of room for further fee compression among actively managed ETFs,” Kashner said. “The asset-weighted average expense ratio for actives ended June at 0.56%, more than twice that of smart beta funds and four times that of vanilla funds down from 0.72% at the end of 2020.”
