Nadig: The Outlook For ETFs In 2017
Today I return to ETF.com. I left 18 months ago as chief investment officer, when the Data business of ETF.com was sold to FactSet Research Systems. I return as CEO to help lead ETF.com into the next phase of ETF industry growth.
It’s reasonable to ask: Why now?
The answer is simple: The ETF industry is poised for even stronger growth than it was two years ago, and faces bigger—and more interesting—challenges than ever.
1. The Active/Passive Debate Is Heating Up
You need only look at fund flows on any given week to see that investors continue to vote with their feet, and they’re voting for low-cost, index-based ETFs. In election week, ETFs pulled in almost $24 billion in new money, while according to Lipper, traditional mutual funds shed $3.4 billion in assets.
That’s a pattern we see week after week, month after month, year after year, ever since the financial crisis. Investors are clearly starting to pay attention to years of research suggesting most active managers don’t beat their bogeys after fees. S&P continues to publish SPIVA report cards showing >80% of managers underperforming, and globally, regulators are starting to take notice too.
But it’s not that simple. Active managers are starting to show up in ETF-land at a steady clip, led by the success of fixed-income managers like PIMCO and DoubleLine. There are now over 160 actively managed ETFs.
At the same time, well-respected research shops like Bernstein are calling into question the actual morality of indexing. A half-dozen nontransparent active management ideas are stalled at the SEC. In other words, things are just starting to get interesting. Helping investors get signal from the noise is a huge and exciting challenge for the coming year.
2. Smart Beta Is Everywhere
There’s no question smart beta is here to stay. Even Vanguard’s gotten into the smart-beta game (albeit not in the U.S. yet). The exciting thing for an ETF nerd like me is that these products all contain kernels of great ideas. Quantitative products are based on math, and nobody’s ever launched a product based on an idea where the math didn’t at least work in hindsight.
But it’s not that simple. Product proliferation in the smart-beta space has been intense. Depending on what you consider “smart beta,” there are nearly 800 ETFs that could qualify for the label. And just what does that label even mean?
More to the point, how is an investor supposed to even understand what a smart-beta product does, much less whether or not it’s right for them, or ultimately delivers on its promises. Those are interesting educational and analytical challenges, and 2017 is going to be a year of tackling them.
3. Distribution Is Shifting
ETFs started out as pretty boring products—simple indexes, sold to institutional managers who needed to equitize their cash positions. Over time, they were adopted by savvy financial advisors who recognized they could add real value and save their clients a ton of money along the way. Finally, retail investors started getting the bug, and the result was a flood of assets in recent years. Now it seems like everyone can get access to ETFs, and it’s just about product.
But it’s not that simple. Robo advisors and ETF strategists both tested the advisory distribution model in the past few years, with varying levels of success. Insurance companies have finally gotten changes made to how they have to handle ETFs for capital charge purposes, and they’re wading into bond ETFs for the first time. 401(k) plans—once the final frontier of ETFs and the last stand for traditional mutual funds—are starting to crack open and let ETFs in.
And the shakeout we’re seeing in the advisory market, between the intense competition among robos, to the gobbling up of regional broker-dealers, means things are going to get more complicated long before they get simpler. Each new distribution channel will face new educational and product selection challenges.
4. Regulatory Chaos, Or Stagnation?
On the surface, it would seem that most of the regulatory issues around ETFs are “settled.” We have a fiduciary rule going into place over the next year, a new set of ’40 Act rules around liquidity to be contended with, and pending rulemaking on the use of derivatives. I’ve written extensively about these over the years here at ETF.com.
But it’s far from that simple. The DOL fiduciary rule is now being called into question in a post-Trump America. Will rescinding the ruling be on what will be a very packed first-year agenda? And with a new SEC commissioner and vacancies across financial regulators needing to be filled, the truth is we have no idea what the regulatory framework for ETFs—or frankly any part of financial services—is going to look like 12 months from now.
As my friend Barry Ritholtz said, the real slogan for the next year could easily be “make systemic risk great again.” On the other hand, literally nothing at all could change. Either way, reading the tea leaves and parsing the changes will be some of the more important and interesting work in 2017.
A Bit Of A Mission
For the past 23 years, ETFs have been this incredible tool in the investor toolbox, and, used correctly, they’ve been a tremendous force for improving investor outcomes. It’s also been an industry that, with rare exceptions, has been truly on the side of the investor themselves.
Sure, it’s a business, and it’s competitive. But there’s always been this sense that ETF-focused advisors, issuers, analysts and journalists were trying to do the right thing by investors.
I still believe that, but at the same time, the markets, the products and the environment for investors have all become more complex, more interesting and more confusing. The watchword at ETF.com has always been to call it like we see it: clear, independent and authoritative as we can be. 2017 won’t be any different. It’ll just be more important than ever.
You can reach Dave Nadig at dnadig@etf.com or on Twitter @DaveNadig
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