Global assets in actively managed exchange-traded funds (ETFs) topped a remarkable $1 trillion by the end of August, as reported by data provider ETFGI, supported by relaxed regulations and a surge in product innovation.
Active ETFs aim to outperform their respective benchmarks, which include the S&P 500, the Nasdaq 100, and the Russell 1000 Growth Index. The first active ETF was introduced by Bear Stearns in 2008.
Although they represent merely 7% of all global ETFs, active ETFs have made up 30% of total inflows into these funds over the past few years, as stated by Matthew Bartolini, head of SPDR Americas Research at State Street Research, in a recent episode of Inside ETFs broadcasted by Reuters.
Analysts pointed out that a significant growth driver was the 2019 regulation informally known as the “ETF rule,” which simplified the intricate process required to gain U.S. Securities and Exchange Commission approval for active ETFs. Since 2019, assets in this category have increased approximately tenfold, according to ETF.com data.
“We’re entering a timeframe where seasonality has not been very favorable,” remarked Angelo Kourkafas, senior investment strategist at Edward Jones. “Even with the anticipation surrounding the beginning of a new rate-cutting cycle, we might still experience a rough journey ahead.”
Historically, the latter half of September is the weakest two-week span for the S&P 500, based on a Ned Davis Research analysis of data dating back to 1950.
In presidential election years, the index has also shown an average decline of 0.45% in October, per CFRA data going back to 1945.
Recently, the S&P 500 was up 1.87% at 5,723.44 points. The Nasdaq rose 2.70% to 18,048.05 points, while the Dow Jones Industrial Average increased by 1.42% to 42,090.90 points.
The regulations focus on the intricate gap between prices that stock sellers are willing to accept and what buyers are prepared to pay, a phenomenon known as the bid-ask spread.
Permitting prices to be quoted in smaller increments or “tick sizes” of less than a penny is expected to create narrower spreads, reducing transaction costs and enabling more competitive pricing, as indicated by the SEC.
Volatility tends to rise in October during election years, with the Cboe Market Volatility index averaging a level of 25 at the beginning of the month, compared to its long-term average of 19.2, as shown by an Edward Jones analysis of the past eight presidential election years. The VIX was recently noted at 16.4.
The market may be particularly responsive to this year’s closely contested election between Republican Donald Trump and Democrat Kamala Harris. Recent polling indicates a nearly tied race.
“Unless there is a significant deterioration in data, we anticipate that U.S. elections will come to the forefront,” UBS equity derivative strategists noted in a report.
The growth trend has continued this year, with active ETF assets surging by 42% as of August 31, according to ETFGI data.
The eased regulations have also spurred innovation, Bartolini stated, motivating issuers to explore unique approaches to products while competing for investor capital.
Active ETFs range from standard options, such as the BlackRock Large Cap Value ETF, to specialized products like the AdvisorShares Vice ETF, which invests in stocks of companies in the alcohol, tobacco, and cannabis sectors.
“These regulatory changes have indeed accelerated some of the more innovative strategies that ETF issuers can introduce to the market,” Bartolini stated.
Active ETFs also include products that have experienced extreme volatility, such as the Ark Innovation ETF, which soared by 152% in 2020 only to decline by 23% the subsequent year. In 2024 thus far, it has lost 9.74%, contrasted with a 20% increase in the S&P 500. Some can also amplify risk, like leveraged ETFs linked to the performance of individual stocks such as Nvidia.
Not all active ETF issuers are thriving, however.
Per a Morningstar report from earlier this year, the ten largest issuers accounted for 75% of active ETF assets, with the bottom half of active equity ETFs holding only 3% of the total assets in the group.
Tim Huver, senior vice president of ETF Servicing at Brown Brothers Harriman, noted that active ETFs may require investors to conduct deeper due diligence. Nevertheless, he believes the sector has reached a pivotal moment.
A survey from Brown Brothers revealed that over 90% of ETF investors planned to elevate their allocation to active ETFs, as noted by Huver.
“I believe the second trillion will come much quicker than it did to reach the first trillion,” Huver stated.
