By some measures, the ETF industry is still in its infancy. Although assets in U.S. exchange-traded funds (“ETFs”) and exchange-traded notes (“ETNs”) have topped the $2 trillion mark for all but one of the past nineteen months, they are still a fraction of the more than $15 trillion in traditional mutual funds.
The quantity of ETF and ETN listings has zoomed 10-fold in the past 11 years. The climb from 200 products to nearly 2,000 has been nothing short of impressive. If it weren’t for the industry’s 24.7% mortality rate, the count would have exceeded that threshold two years ago. Instead, of the 2,555 products brought to market (as of August 31), a full 632 have gone by the wayside, leaving the current number of listings at 1,914.
August was only the second time in 41 months where closures outnumbered launches, resulting in a decline in the number of active listings. Even though August established a new record for monthly closures, the industry is still on pace to surpass the 2,000 threshold in the next year.
Many industry analysts predict that assets in ETFs will catch and pass those in traditional mutual funds in a few years, but surpassing the quantity of mutual funds is another story. According to the Investment Company Institute, there are more than 9,000 mutual funds in the U.S. today. The day that the quantity of ETFs surpasses that of mutual funds is far in the future, and it may never arrive. The primary reason for this lies within the “exchange-traded” portion of the ETF name.
ETFs are bought and sold on stock exchanges via traditional brokerage accounts. ETF investors typically do not think twice about selling a SPDR ETF and replacing it with an iShares or other brand of ETF. That’s both the beauty and beast of ETF investing—there are little to no barriers to switching fund families. If you remember the early days of the mutual fund industry, investors had to open an account directly with the fund family. It was an easy task to exchange one fund for another as long as you remained within the fund family. But if you wanted to sell a Fidelity mutual fund and replace it with a Vanguard mutual fund, there was a lot of time, effort, and paperwork involved.
To help keep money within a given mutual fund complex, each fund family offered similar products. Nearly every fund company has a money market fund, but in the ETF world, there are only a few similar products. When the Vanguard S&P 500 Index mutual fund became popular, many other fund families began offering their own version to help prevent assets from moving to Vanguard. Today, Morningstar reports that there are 49 S&P 500 Index mutual funds available with 149 different share classes. For ETFs, there only needs to be one S&P 500 ETF since buying and selling on an exchange eliminates the need to stay within a single family. However, in the case of the S&P 500 Index, there are actually three U.S.-listed ETFs tracking it, but it is the exception. Though three are not necessary, the underlying index is very popular, and the three ETFs try to differentiate themselves based on dividend reinvestment policies and expense ratios.
Granted, many investors now buy and sell traditional mutual funds through brokerage accounts, and in doing so, they can move assets between fund families as easily as moving within the same family. Still, this does not eliminate the need for fund families to offer seemingly overlapping funds due to both historical precedence and the large quantity of assets still held directly with fund companies. As long as the mutual fund industry continues to exist, the quantity of ETFs will likely lag the quantity of mutual funds for decades.
There are only minor changes in this week’s sector rankings. Technology, thanks to advances for semiconductor and software firms, increased its lead over Materials and Financials because banks declined and most materials-based companies stagnated. Energy moved ahead of Industrials, marking the only change in this week’s relative-strength ordering. Real Estate posted a strong week, but it wasn’t enough to change its overall status. Consumer Discretionary, Consumer Staples, and Health Care managed to maintain their positive trends for another week. Telecom and Utilities remain on the bottom and are the only two categories in the red.
Micro-Cap moved to the top, signaling that “the smaller the better” is the dominant theme in the style rankings. Small-Cap Value, Small-Cap Blend, and Small-Cap Growth are directly below the leader with just a single momentum point separating all four categories. It’s definitely a small-capitalization world as there is a huge 10-point gap between the four at the top and the rest of the field. Various Mid-Cap and Large-Cap categories occupy the fifth through ninth places in the rankings, and Large-Cap Value swapped places with Mid-Cap Blend. Mega-Cap resides in 10th, and Large-Cap Growth is on the bottom.
You may think that the U.S. stock market is performing well, but on a relative basis, it is the worst among our major global categories. The U.S. plunged from seventh to last this week, despite having nudged its momentum score a point higher. Sure, the stocks in some smaller countries like Nigeria, Vietnam, Malaysia, Turkey, Greece, and Poland are underperforming their U.S. counterparts, but among our major categories, the U.S. is at the bottom. Meanwhile, China is at the top for a third week, sporting a momentum score that is 37 points better than the U.S.’s reading. Latin America is solidly in second and Emerging Markets has a firm grip on third, giving the developing markets trio a clear advantage over all of the developed markets. Japan held on to its fourth-place position, but every category below it changed places over the past week. The Eurozone jumped four spots higher to fifth, while EAFE and the U.K. climbed three places higher and ended their multi-month stay at the bottom. World Equity dropped three places and Pacific ex-Japan fell two, leaving it slightly ahead of the U.S. on the bottom.
“ETFs have structural advantages. They tend to have lower operating costs, tend to minimize flow-related costs and tend to have low cash balances.”
—Stephen Clarke, president of NextShares Solutions LLC
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