Seeking Alpha

ETFs In The 2020s: 4 Trends To Watch

by: FTSE Russell
Summary

The increased adoption of ETFs was one of the most striking of all the investment revolutions that characterized the 2010s.

ETFs were initially plain vanilla-offering exposure to broad, familiar asset classes-but ETF innovation over the past several years has been substantial.

Fixed income yields have held steady at depressed-or even negative-levels for a long stretch, and there's little indication this trend won't extend into the 2020s.

Originally published on January 24, 2020

The increased adoption of ETFs was one of the most striking of all the investment revolutions that characterized the 2010s. A decade ago, many retail investors still considered ETFs to be novel, exotic, and somewhat complicated. And institutions weren't rushing to embrace ETFs either, as many were already reaping low cost benefits from other index vehicles.

We've come a long way. Retail and institutional investors alike have grown comfortable with ETFs and their potential benefits. With a decade of widespread ETF growth in the rearview, we're looking ahead to what could be in store for ETFs in the 2020s.

1. Alt-ETFs 2.0

ETFs were initially plain vanilla-offering exposure to broad, familiar asset classes-but ETF innovation over the past several years has been substantial. We expect this innovation to continue into the 2020s, particularly with respect to alternative exposures. Over the next decade, look out for more ETFs tracking private equity, merger arbitrage, and digital assets indexes. We also wouldn't rule out ETFs that track preference shares indexes, which are designed to straddle equity and fixed income asset classes.

2. ETFs for yield-starved appetites

Fixed income yields have held steady at depressed-or even negative-levels for a long stretch, and there's little indication this trend won't extend into the 2020s. The hunt for yield often leads investors into the riskier corners of the bond market, such as fragile countries, heavily indebted companies and opaque, financially engineered instruments.

This can present an opportunity for both index and ETF providers. While yield scarcity might lead some investors to seek fixed income products where the risks aren't visible or fully understood, ETFs can offer a simpler, more transparent solution. Index providers are tasked with effectively shedding light on higher yielding fixed income markets and providing measurable, accurate performance data. And ETF providers can offer funds that track these indexes to meet continued investor demand for yield without the opacity of other instruments.

3. Smart Beta and factors thrive

We expect several of the ETF trends that took root in the 2010s to continue to gain in both momentum and size in the coming decade. Broadly, we expect continued growth in overall ETF AUM. The adoption of smart beta or factor strategies will keep rising. In July 2019, FTSE Russell's sixth annual smart beta survey found that 58% of institutional investors surveyed had implemented smart beta strategies, up 10% from 2018. Multi-factor strategy usage proved most popular, increasing to 71% globally in 2019, up 22%. Adoption of these strategies increased to 60%, in North America, up 18% from 2018 to 2019. And more than 77% of European respondents expressed interest in applying ESG considerations into smart beta allocation-up 22% from 2018.

4. ETFs become asset allocation bedrock

Many investors who were unfamiliar with ETFs ten years ago now use them as core building blocks for retail portfolios. In fact, ETF managed portfolios-those that have more than 50% of assets invested in ETFs-have been one of the fastest-growing segments of the managed account universe, representing over $120 billion in assets.[1] We expect to see continued growth in this area, as more and more advisors consider ETFs the go-to vehicle for core asset allocation.

As retail investor adoption of ETFs has grown, so too has institutional ETF usage-in fact, in a recent survey, 78% of institutions cited ETFs as their preferred vehicle for index strategies.[2] Most institutional investors are turning to ETFs for their exchange-traded flexibility, which makes them useful vehicles for tactical allocations. For example, in early 2019 many investors had spent the prior 12 months shortening the duration of their portfolios, only to seek duration lengthening trades following the Federal Reserve's pivot to a more neutral stance. ETF flows data indicated that a large number of investors used ETFs to nimbly manage their fixed income exposures in reaction to the news, and indeed that ETFs flows into fixed income ETFs were on an upward trajectory during the decade.

Source: FTSE Russell/XTF. As at December 31, 2019. Past performance is no guarantee of future performance.

We would expect "ETF managed portfolios" to keep becoming more popular. These solutions typically use ETFs as building blocks for more of 50% of their invested assets that are then packaged into various investment strategies. As Morningstar noted in its ETF Managed Portfolios Landscape Report[3], these portfolios represent one of the fastest-growing segments of the managed-account universe. Benchmarking (often blended benchmarks) still has an important role to play in this area of the market.

[1] Morningstar, Morningstar ETF Portfolios Landscape Report, Q1 2018
[2] Greenwich Associates, ETFs: U.S. Institutions' New Tool of Choice for Portfolio Construction, Q1 2019
[3] Morningstar, Morningstar ETF Managed Portfolios Landscape Report, Q1 2018

© 2020 London Stock Exchange Group plc and its applicable group undertakings (the "LSE Group"). The LSE Group includes (1) FTSE International Limited ("FTSE"), (2) Frank Russell Company ("Russell"), (3) FTSE Global Debt Capital Markets Inc. and FTSE Global Debt Capital Markets Limited (together, "FTSE Canada"), (4) MTSNext Limited ("MTSNext"), (5) Mergent, Inc. ("Mergent"), (6) FTSE Fixed Income LLC ("FTSE FI"), (7) The Yield Book Inc ("YB") and (8) Beyond Ratings S.A.S. ("BR"). All rights reserved.

FTSE Russell® is a trading name of FTSE, Russell, FTSE Canada, MTSNext, Mergent, FTSE FI, YB and BR. "FTSE®", "Russell®", "FTSE Russell®", "MTS®", "FTSE4Good®", "ICB®", "Mergent®", "The Yield Book®", "Beyond Ratings®" and all other trademarks and service marks used herein (whether registered or unregistered) are trademarks and/or service marks owned or licensed by the applicable member of the LSE Group or their respective licensors and are owned, or used under licence, by FTSE, Russell, MTSNext, FTSE Canada, Mergent, FTSE FI, YB or BR. FTSE International Limited is authorised and regulated by the Financial Conduct Authority as a benchmark administrator.

All information is provided for information purposes only. All information and data contained in this publication is obtained by the LSE Group, from sources believed by it to be accurate and reliable. Because of the possibility of human and mechanical error as well as other factors, however, such information and data is provided "as is" without warranty of any kind. No member of the LSE Group nor their respective directors, officers, employees, partners or licensors make any claim, prediction, warranty or representation whatsoever, expressly or impliedly, either as to the accuracy, timeliness, completeness, merchantability of any information or of results to be obtained from the use of the FTSE Russell products, including but not limited to indexes, data and analytics or the fitness or suitability of the FTSE Russell products for any particular purpose to which they might be put. Any representation of historical data accessible through FTSE Russell products is provided for information purposes only and is not a reliable indicator of future performance.

No responsibility or liability can be accepted by any member of the LSE Group nor their respective directors, officers, employees, partners or licensors for (a) any loss or damage in whole or in part caused by, resulting from, or relating to any error (negligent or otherwise) or other circumstance involved in procuring, collecting, compiling, interpreting, analyzing, editing, transcribing, transmitting, communicating or delivering any such information or data or from use of this document or links to this document or (b) any direct, indirect, special, consequential or incidental damages whatsoever, even if any member of the LSE Group is advised in advance of the possibility of such damages, resulting from the use of, or inability to use, such information.

No member of the LSE Group nor their respective directors, officers, employees, partners or licensors provide investment advice and nothing contained herein or accessible through FTSE Russell products, including statistical data and industry reports, should be taken as constituting financial or investment advice or a financial promotion.

Past performance is no guarantee of future results. Charts and graphs are provided for illustrative purposes only. Index returns shown may not represent the results of the actual trading of investable assets. Certain returns shown may reflect back-tested performance. All performance presented prior to the index inception date is back-tested performance. Back-tested performance is not actual performance, but is hypothetical. The back-test calculations are based on the same methodology that was in effect when the index was officially launched. However, back- tested data may reflect the application of the index methodology with the benefit of hindsight, and the historic calculations of an index may change from month to month based on revisions to the underlying economic data used in the calculation of the index.

This document may contain forward-looking assessments. These are based upon a number of assumptions concerning future conditions that ultimately may prove to be inaccurate. Such forward-looking assessments are subject to risks and uncertainties and may be affected by various factors that may cause actual results to differ materially. No member of the LSE Group nor their licensors assume any duty to and do not undertake to update forward-looking assessments.

No part of this information may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without prior written permission of the applicable member of the LSE Group. Use and distribution of the LSE Group data requires a licence from FTSE, Russell, FTSE Canada, MTSNext, Mergent, FTSE FI, YB, BR and/or their respective licensors.

Original Post

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.