ETF market growing but volatility has impact
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Australia's exchange-traded fund market is forecast to grow to $26 billion by the end of the year, however, global equity volatility has taken its toll on growth in the first half.
As investors seek to diversify their portfolios, the size of the exchange-traded products market has grown quickly in Australia, with more ETFs offering new exposures to a variety of asset classes and investment strategies, including risk-managed equity investments and global equity ETFs focused on particular sectors.
As at the end of June 2016, there were 137 exchange-traded products listed on the ASX, up from 123 a year earlier.
The industry ended the 2015-16 financial year with a market capitalisation of around $22.4 billion, down from the record of $23.2 billion recorded in May, according to the ASX Funds Monthly Update for June 2016.
BetaShares' Australian ETF Review Half Year 2016 says that while the market grew in the first half of 2016, the pace was slower than in recent years.
Not surprisingly, gold ETFs performed best of all as investors moved into defensive assets, with falls in share prices weighing on the industry overall.
As a result, BetaShares has downgraded its forecast for the size of the market by year's end to $26 billion from a previous forecast of between $28 billion and $30 billion.
Arian Neiron, Van Eck Global Australia's managing director, also expects the market to grow to $26 billion by the year's end, though he says global equity volatility has curbed growth in the first half.
"The first half of 2016 reflected investors' uncertainty towards the world economy and more specifically, the fallout of Brexit which was reflected in negative ETP outflows of $54 million in June," Neiron says.
"We anticipate Australia's ETP industry will reach $26 billion by the end of 2016 for a number of factors.
We expect there will be new ETPs launched including a number of active managers launching some of their flagship funds as exchange-traded managed funds (ETMFs).
"We also expect to see an increasing adoption of ETFs in model portfolios for both strategic and tactical allocation."
Neiron's company is behind the best-performing ETF in the first half, the VanEck Vectors Gold Miners ETF (ASX: GDX), which returned almost 100 per cent to investors, a sign of market volatility and investors' flight to the safety of gold.
However, product development was "relatively strong" over the first half, with 16 new products being launched.
"From the perspective of investment categories, investors were particularly drawn to international equities with more than $440 million of net inflows into these products over the first half period," the BetaShares report said.
BetaShares managing director, Alex Vynokur, says three key product trends have emerged in recent times, which he expects to continue into 2017.
They are the launch of objectives-based products, specifically designed to meet a particular investor need or strategy, as well as country-specific ETFs, and finally, actively managed ETFs.
"The launch of country-specific ETFs, including for example European, Japanese and sector-specific ETFs that allow investors to access specific industry sectors globally such as global energy and global gold miners, has emerged as a trend, as well as the launch of actively managed ETFs, an area we expect to grow considerably over the coming year or so," Vynokur says.
"The issue, of course, with investments into equities is the obvious volatility that investors may be exposed to.
"As a result, we expect to see the continued adoption of products providing access to risk-managed equities. The continued innovation in ETPs means investors are able to take on more equities exposure in a risk-controlled way.
"For example, our risk-managed ETF suite has grown by over $100 million this year to date with investors being able to access either the Australian or global share markets at approximately 50 per cent of the level of volatility when compared to the share market by itself."
Moreover, interest in equity ETFs is expected to grow as investors seek income now that interest rates are so low.
"With real interest rates at near zero levels, investors are increasingly realising the value that equity income can play in portfolios," says Vynokur.
According to BetaShares, diversification remains the most commonly cited reason for investors using ETFs.
Access to overseas markets has now overtaken low cost as the second most commonly cited reason, according to the BetaShares/Investment Trends 2015 Exchange Traded Funds Summary Report.
"The number of SMSFs holding ETFs has grown from 76,000 in 2014 to 83,500 in 2015. Usage of ETFs by the broader population continues to gather pace … SMSFs who use ETFs are even more likely to favour ETFs for access to overseas markets and liquidity," the report said.
As for costs, there is good news. There will be downward pressure on fees for "plain vanilla" ETF products, says Neiron, who also expects a greater focus on performance.
Vynokur agrees: "Fee pressure has certainly been experienced in the industry, particularly among vanilla, index-tracking-style exposures which offer little differentiation from each other."
"On the other hand, for products that offer more unique or strategic exposures, such fee compression has not been in evidence as the cost of running these types of investments are considerably higher for the fund managers."
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Nicki Bourlioufas is a Morningstar contributor.
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