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The $7.1 trillion U.S. ETF industry (as of 3/31/22) is far from being a mature market. First developed in the 1990s to provide access to passive index tracking and sector funds, the ETF universe has been in perpetual evolution. Now with recent regulatory changes lowering marketplace “barriers to entry”, ETF issuers are being invited to bring to market more creative and unique approaches to the ETF structure. Originally driven by generally lower costs, easier access, and tax advantages, ETFs now represent a broad engine for financial services innovation.
Another growth dynamic may also be added to this already exponential ETF growth trajectory with Guinness Atkinson and Dimensional Funds leading the way in converting their mutual funds to ETFs. Bloomberg Intelligence estimates active managers could bring $100 billion to the ETF industry through mutual-fund conversions.
This dynamic growth and wide variety of intriguing new and re-engineered products being introduced are substantially increasing competitive pressures and presenting serious challenges for ETF issuers. To breakthrough today’s increasingly crowded marketplace, these challenges reside around three factors: Access, Cost, Growth. Ultimately, growth cannot be achieved without access to platforms and advisors and the cost of the internal resources needed to effectively reach your client base can become prohibitive. Traditional distribution resources and personnel requirements will need to be rethought and reformulated.
In order to learn more about these challenges and explore possible solutions, we went to Institute member Jillian DelSignore, Managing Director, Head of Advisor Sales at FLX Networks – a community platform revolutionizing the engagement experience for asset managers, wealth management firms, and financial advisors.
Hortz: Can you please give us a brief lay of the land of where we are now with this ever-evolving ETF marketplace?
DelSignore: ETF asset growth, product innovation, and the rate of new launches are truly impressive. 2021 was a record year as global ETF assets surpassed $10 trillion and saw flows of over $1 trillion. There has also been an increasing rate of new ETF launches – 299 in 2020, 459 in 2021, and 146 so far this year. With much of the attention and usage focused on passive index strategies, it is interesting to note that active ETFs now represent over 29% of the universe utilizing a wide variety of investment strategies from adaptive sector rotation to volatility management to fixed income diversification, among many others. ETF.com, ETF Trends, and ETF Database are great sources of information to follow the ongoing developments of this marketplace.
Hortz: What do you see as the most interesting innovation trends in the market today?
DeISignore: Some of the more interesting product development is coming in areas like ESG and impact investing, outcome-oriented strategies, and thematics. Thematics, in particular, have ballooned in the last few years. You see issuers developing ETFs that offer investor access to exposures in blockchain, emergent food themes, and others impacted by consumer trends and demographic shifts. You also have active ETFs, both fully and semi-transparent, continuing to evolve and grow market share.
The last trend I will note is model portfolios increasingly utilizing ETFs. Models have been a trend for a number of years and they continue to accelerate as advisors and wealth management home offices look to provide turnkey investment solutions. Not to mention issuers looking to create model portfolios to help commercialize their ETFs.
Hortz: Earlier this year, you interviewed 30 ETF managers and compiled a research white paper “The Changing Landscape of ETF Distribution”. What were some of the main take-aways?
DelSignore: There were a few key takeaways from the report.
The first takeaway was the realization that an issuer must bring more than just product. Having a unique product with great performance are just table stakes at this point. Advisors are working with a fewer number of partners and are looking for more support from those partners. The conversation has evolved to helping advisors understand how an ETF is differentiated, as well as how precisely to use it, where it fits in the portfolio, and other portfolio construction related support.
ETF issuers need to commit time and money to provide resources, education, detailed portfolio construction commentary, share research, and offer due diligence support. These value-add offerings can provide strong differentiators that advisors and their clients are looking for as they are navigating the increasing number of new and existing ETF products.
The second takeaway was on the need for data – what sources and partners to use for that data, how much will that cost, how do use it to focus on intelligent and targeted communications and create an optimized sales experience. The conversation is endless and it is driving distribution decisions and capabilities.
The third takeaway resides around what we call the “Institutionalization of retail”. Said differently, the investment decisions are becoming more concentrated with fewer people. Whether it is wealth management home office personnel approving product for advisor access or model providers selecting products for inclusion, the decisions that can lead to significant commercial opportunity are largely determined by fewer people than ever before.
Hortz: What are your thoughts on mutual fund conversions and do you see more mutual fund managers converting to ETFs? What are their key decision factors for making that move?
DelSignore: I think conversions are going to continue to change the landscape as they create a path for asset managers to enter the ETF industry with their existing strategies and assets. One point of consideration is how the wealth management platforms will handle these products as conversions accelerate. Those asset managers considering conversion as an option should consider the following:
Platform access- ETF issuers should look to engage the wealth management platforms in advance to understand the considerations of placement where their mutual fund may have been available. The same may not be the case for the ETF.
Distribution plan – for some asset managers, the conversion marks their first entrance into the ETF industry. Understanding how the firm will handle distribution of the ETF is a critical consideration. Will you hire ETF specialists to support the product? Do you plan to add the ETF to your current sales teams’ responsibilities? These decisions should be considered well in advance of any launch.
Hortz: From your perspective, where do see the ETF industry evolving over the next decade?
DelSignore: I feel like we are in about the 3rd or 4th inning for the ETF industry. I think a few key areas will continue to fuel growth:
Active ETFs – We have yet to see the true impact that the entrance of some of the largest asset managers will have on the development and usage of ETFs. This captures both new launches and conversions, as well as transparent and semi-transparent ETFs.
Model portfolios – this is a twofold opportunity. Wealth Management platforms and firms can create model portfolios for their advisors to offer outsourced investment solutions and take the time-intensive portfolio management decisions out of their hands. Model portfolios also provide a strong commercialization strategy for the ETF issuers.
Evolution of users – meaning, we are constantly learning about how investors are using ETFs in their portfolios. I think that the evolution in an asset class like fixed income, where meaningful white space for product development still exists, we will see unique applications particularly in the institutional market.
Expansion globally - The US is the most mature market, but you are seeing strong growth all over the world as ETFs grab hold in both the institutional and retail markets.
Distribution strategy - Distribution is about more than just salespeople and sales materials. It has evolved into a holistic approach incorporating integrated marketing, media, digital strategy and understanding the use of technology and data.
Hortz: Any words of advice you can offer asset managers with ETFs or thinking about launching an ETF?
DeSignore: There are several considerations that I would put at the top of the list. This is by no means exhaustive, but just some of what an asset manager should think about in making the decision:
Who are your buyers? Can you access those buyers? Are you relying on particular wealth management platforms that may or may not approve your ETF for use given their onboarding requirements?
How are you raising your first $50 million? This goes hand in hand with the first consideration. A detailed, holistic distribution strategy is critical – this is not just sales personnel, but marketing, PR, media, digital presence, and technology stack.
If you are an existing asset manager, will your current sales team support the ETF, or will you hire ETF Specialists?
I do not like to lean on performance, given it will inevitably ebb and flow, but frankly that is a key reason why investors buy active products. If the strategy is not gathering assets in a different structure (SMA, mutual fund), for whatever reason, just putting it in the ETF wrapper is unlikely to change the tide.
As to the competitive landscape, what ETFs are currently available in your asset class and at what cost? What is your differentiator versus those products? You must also consider that you have to bring something beyond just your product to the table for advisors – think research, content, etc
You need to create scale across all aspects of a distribution strategy to compete. I believe that is one reason that FLX has become such an important partner to ETF issuers and all asset managers. We have helped to create scale to support all aspects of an ETF business strategy, whether a new or established issuer. Specifically, we bring top tier resources at competitive prices through shared resources that assist from product ideation, to creation, operation and distribution. Concurrently, we are creating a community through the gravitational pull of intriguing investment solutions and insightful content, bringing together asset managers directly with advisors and wealth managers.