Industry representatives and academic thought leaders share insights on features that could pose concern
The ETF industry is still on the path to growth, as global ETF and ETP AUM has surged safely above US$5.5 trillion based on recent figures from research firm ETFGI. At the same time, those in the financial industry have converged around the view that the current bull market is in late-cycle territory, particularly as more than 10 years have passed since the global financial crisis.
So it’s not so surprising that the debate around the safety of ETFs and their effect on the markets continues to rage. And that’s exactly the question that was tackled by a panel of ETF experts — including institutional and private-wealth investors, ETF issuers, and academic researchers — convened by CFA Society New York.
“One of the weaknesses in the industry is that there isn’t a good classification around what an ETF is and how it sits in the marketplace,” said ETF market maker Reggie Browne, principal of GTS, as reported in a CFA Institute blog post. “You have folks out there advocating for bitcoin, diamonds, and other esoteric asset classes that don’t belong in the ETF industry.”
While he acknowledged the role of ETFs in putting multi-asset diversification within the reach of retail investors, Ayan Bhattacharya, PhD, of Baruch College at City University in New York, highlighted a number of ETF-related concerns. One that he characterized as particularly true for ETFs, based on academic research, is how they strengthen market movements.
“There’s a set of issues that are unique to the ETF because of the structure of the ETF that has to do with the amplification of market movements, especially during times of market stress and uncertainty,” Bhattiacharya said.
Many panelists agreed that ETFs came with their fair share of risks; the question of liquidity risk, particularly as it relates to the primary and secondary markets, was on the minds both industry professionals and their clients. However, many questioned the implication that the risk profile or amplification effect of the ETF structure is especially distinct.
“It’s really the liquidity of the underlying exposure,” said Stephanie M. Pierce, CEO of BNY Mellon Investment Management’s ETF and index business. “But it’s not unprecedented to see a liquid investment vehicle with illiquidity underneath it.”
Many participants argued that the liquidity risk question exists not just for ETFs, but also for other types of investment wrappers. John Penney, CFA, a senior advisor consultant for Invesco’s registered investment advisor (RIA) division, held the conviction that ETFs can actually help “alleviate some friction that mutual funds may experience in periods of volatility and heavy selling.”
Some even suggested that other structures, including mutual funds, may have even more systemic risk potential, but are less scrutinized simply because they’re more opaque.
“There’s 29 years of empirical evidence globally about how ETFs behave through all market events … enough to close down the ongoing conversations around ETFs being catalysts for some system-wide event,” Browne said. “You have so many different structures that use underlying assets … because they’re transparent, everyone’s pointing to the ETF structure as being the catalyst. But yet, it’s a vehicle for true transparency in real time.”
