ETF Assets Reach $4.4 Trillion

This is a cumulative average growth rate of 21% since 2005, when ETF assets were a mere $417 billion.

In the past 12 years, exchange-traded fund (ETF) assets have experienced a cumulative average growth rate (CAGR) of 21%, exploding from $417 billion of assets in 2005 to $4.4 trillion at the end of this past September, according to EY research.

Several factors have driven this impressive growth, EY says: self-directed retirement saving, low yields, regulations centered around low fees and suitable investments, digital distribution and the movement to passive from active management.

Over the next three years, EY projects ETF assets to grow by a CAGR of 18% to $7.6 trillion by 2020. “If anything,” EY says, “we think this understates the industry’s growth potential.”

However, EY says, individual ETF providers will find it increasingly harder to stand out in the marketplace. “It is no longer sufficient for an ETF to be cheaper, more liquid or more innovative than a competing mutual fund,” EY says.

Thus, ETF providers need to find ways to innovate around investors’ needs, “refine journeys for new and existing investors,” reduce costs even further, enhance transparency and “respond to evolving regulation in a way that helps investors,” EY says.

EY projects that passive investments’ market share will have grown from 14% in 2011 to 31% by 2020, while active investments’ market share will have shrunk from 86% to 69% in that timeframe—and EY expects that continued shift will help ETFs. In fact, by 2027, EY expects passive investments’ assets to exceed that of active investments.

To innovate, EY expects some investment managers will offer ETF share classes of mutual funds, and that mainstream investment managers will enter the ETF space, stressing the similarities between mutual funds and ETFs. Other mutual fund managers, EY says, will fight back against the intraday trading capabilities of ETFs by offering alternative investments in illiquid assets.

However, EY believes that within five years, nearly all assets managers will offer ETFs, be they active or passive. That said, EY believes the industry will continue to focus on fixed income ETFs in the near term, but that fixed income ETFs’ assets will never exceed equity ETFs’ assets.

“Smart beta products are seen as having particular potential, as providers apply factors such as duration or leverage to bond indices instead of traditional debt-weighting,” EY says. EY also believes smart beta is a possibility for equity ETFs. Socially responsible ETFs or ETFs built around themes such as mobile payments are another option, the consulting firm says.

EY adds that ETF providers need to seek new investors, because as much as 25% of inflows over the next three years will come from new investors. New investors could include pension funds, insurers, private banks, wealth managers, robo advisers and such investment funds as hedge funds, in search of liquidity management or exposure to select areas of the market, EY says.

In line with this, EY says ETF providers should tailor the investing experience for each type of investor by addressing their unique goals and tax situation.

EY’s full report on ETFs, “Reshaping Around the Investor,” can be downloaded here.