The rise and rise of ETFs

Christine St Anne  |  01/11/2013Text size  Decrease  Increase  |  

Christine St Anne: Morningstar's Alex Prineas joins us again to talk about the latest developments to the ETF, or exchange-traded fund, market. Alex, great to see you again. 

Alex Prineas: You too, Christine. Thanks for having me.

St Anne: Alex, your latest report on the market has found that the sector has grown rapidly. So, what would be the key drivers behind that growth?

Prineas: That's true. Australian ETFs, the industry grew pretty rapidly over the quarter, more than $1 billion, so it's up to over $8.8 billion. Now, some have pointed out that the asset growth has been driven by the rising stock market and I'd agree that's part of it, but the ETF industry has grown faster than the rising market. If you look over the September quarter, the market – the ASX 200 index was up about 10 per cent; the ETF industry grew faster than that, at 15 per cent, or if you look over the year-to-September, the stock market was up about 24 per cent, but the ETF industry grew its assets 55 per cent, more than 55 per cent. That's particularly impressive given the backdrop of pretty tepid flows to unlisted managed funds over that period. So, of course, there are winners and losers within that, but overall I’d say 2012 was a fairly stagnant year for ETF inflows, but 2013 has been strong.

St Anne: So, Alex, which ETF providers are getting the biggest inflows?

Prineas: It looks like investors have been taking advantage of the high Australian dollar. So international share, ETFs have been getting pretty strong inflows. Our figures show strong flows into products like iShares S&P 500, which took in more than $130 million over the quarter; high dividend ETFs also continued their strong run, with inflows into products like Vanguard High Dividend, SPDR High Dividend. By far the most successful ETF launch in the last couple of years has been BetaShares Australian Cash ETF, that's quite popular with institutional investors as a place to park cash. It was only launched in March 2012, but it's already the ninth largest ETF in Australia and it's got almost $300 million in assets.

St Anne: Lo and behold, what about any outflows?

Prineas: There have been some outflows too, especially in areas like gold ETFs. So ETFS Physical Gold saw about $133 million flow out in just the September quarter. We've also seen outflows from the market leading ETF, SPDR ASX 200, STW, which has been losing market share to rival providers like Vanguard. So we estimate more than $130 million flowed out of STW in the third quarter. But just to put that into perspective, STW still by far the largest and most liquid ETF in Australia and GOLD, the gold ETF, that's the fourth largest ETF in Australia. So, large outflows in absolute terms, but relatively small compared to their size. But I think the biggest story is the inflows that we are seeing across the ETF industry and the benefits that that can bring for investors.

St Anne: Alex, on the managed fund sector, those managers managing large funds under management could be a hindrance to investors. So, why is the ETF market any different?

Prineas: Yes, it's true that for managed funds, for active managed funds, very large asset book can be a hindrance. But most ETFs are passive vehicles, especially in Australia, and it's a scale business. So within reason, bigger the better for ETFs, because we're larger asset book, investors can benefit from lower costs and greater liquidity. So what we've actually seen is that in the well-established ETF segments, like Australian shares, international shares, and high-dividend ETFs, trading volumes are higher as a result of those flows. So remember when you are analyzing the cost of any investment, you have to take into account management costs, which are your ongoing costs. But your one-off trading costs can be very important as well, especially if you are transacting frequently. So a bigger asset book contributes to higher trading volumes; higher trading volumes help to reduce buy/sell spreads and increase liquidity in the market.

St Anne: Alex, could you give us any examples?

Prineas: A good example is the Australian listed property ETFs, where buy/sell spreads are about half of what they were 12 months ago. Now, part of that is going to be low market volatility that we've seen; part of it could be increased activity from ETF market makers. But certainly there is no doubt that the larger asset book helps and we also think that a large asset book is a more sustainable liquidity advantage.

To illustrate that, you just need to look at STW, which we talked about before, is by far the largest ETF in Australia. It's got more than $2 billion in assets and it's consistently very low-cost to trade. It's bid/ask spread is typically around 5 basis points. So as other ETFs grow, STW demonstrates the types of low trading costs that are possible with a big asset book. Individual ETFs have seen inflows and outflows. But overall, the industry has grown a lot over the last year and we think that increased scale is a positive for the industry, because it contributes to increased trading volumes and lower trading spreads. So we already thought ETFs were a pretty attractive low-cost way to invest and they're now even more attractive.

St Anne: Alex, great to get your insights again.

Prineas: Thanks, Christine.

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