Why Alliance Bernstein's ETF Projections Underestimate Fund Industry Changes

Includes: BLK, IVZ, STT, WETF
by: Aniket Ullal

Alliance Bernstein recently put out a widely publicized report (a good summary is here) asking whether ETF growth will hit a wall. It's a well-researched report that addresses an important issue. However I think it under-estimates the ongoing structural change in the asset management industry, in the following ways:

1. The A-B analysis assumes that ETF asset growth to date has been synonymous with growth in 'passive' index investing. As I've argued before, looking at the fund industry through the traditional index/active prism misses a structural change in the industry. The table below shows asset share for active, index funds and ETFs.





Active Mutual Funds

(ex-Money Market)




Index Mutual Funds








Source: Alliance Bernstein

It's clear that active funds have lost share to ETFs quite dramatically. However this is not because investors have become more skeptical of active management. If that were the case, traditional index funds would likely have grown in assets as well. Rather, it's because retail investing behavior is changing. Historically, retail investors 'outsourced' active management to mutual fund managers who picked individual stocks and bonds. Self-directed investors are now constructing portfolios themselves using ETFs as low cost building blocks they didn't have earlier. HNW individuals are 'outsourcing' to advisors or managed ETF providers, who are increasingly more focused on asset allocation than on evaluating active managers. These are trends that are independent of the traditional "active managers can't beat their benchmark" argument that drove the growth of conventional index funds.

2. The report also argues that the success of active ETFs is one of the keys to continued ETF asset growth. For the reason outlined above, I don't think this is the case. By contrast, my view continues to be that more active managers jumping onto the ETF bandwagon could actually hurt ETF asset growth rates. Giving consumers too many options is often worse than giving them too few. The rapid entry of traditional active managers could muddy the ETF waters and complicate the simple value proposition that ETFs have had. I think if active managers don't enter this space, large incumbents like Blackrock & State Street will continue to increase market share. There are still significant assets in long only equity mutual funds that are under threat from ETFs. It's the reason active managers want to defend their turf in the first place - if they didn't see a continued threat, they wouldn't consider entering the ETF space.

3. Finally, the impact of ETFs goes beyond just asset growth. An important element of their success is daily portfolio transparency. As investors get accustomed to this, they're not going to turn the clock back. The success of ETFs is eventually going to force other investment products in the direction of more transparency & daily disclosure.

Ultimately, any projection is just intelligent & informed guesswork - the Alliance report sets a useful baseline for discussion, though I think it may underestimate the ways in which ETFs have changed the industry.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.