Is passive becoming the ‘new normal’?

Figures from the latest IMA Asset Management Survey show that the actual share of passive management strategies used across the UK-managed asset base is only showing a gradual increase, from 17 per cent in 2006 to 21 per cent in 2010, and reaching 22 per cent in 2013.

While this figure does not cover the full exchange traded fund/product (ETF/ETP) market, it shows that while passive strategies are gaining ground, there remains a strong bias to active management.

But with many investors looking to blend a combination of these strategies into a broader portfolio, the importance of the so-called ‘active vs passive’ debate has diminished over time.

Mark Johnson, head of UK sales at iShares, says: “We’ve seen a surge of interest in the past few years as investors seek to do two things.

“The first is to blend different strategies together to create a more optimal outcome, and secondly as people have become more wary of cost considerations, passive can be a lower cost alternative to active.

“It is not ‘versus’, it is ‘and’,” he argues. “It is about getting the best out of both approaches. It is very much about identifying alpha and then having a view on which markets lend themselves to index-based solutions.”

Nick Blake, head of UK retail at Vanguard, notes the RDR has been a “terrific tailwind” for the passive market, partly through the removal of commission bias levelling the playing field, and partly through more transparency and a spotlight on costs for clients.

“It has become more of a philosophical question about whether they are aware and aligned to indexing or more philosophically aligned to active. And because of the cost focus, more people are questioning if active management has delivered, and what they are paying for it.

“That has again led more people to consider passive, either because they think the outcome of passive is more certain, or they can capture market return at a far lower cost.”

The increase in product innovation is also improving competition and choice for investors. Viktor Nossek, head of research at Boost ETP, says the ETF industry has seen “phenomenal growth” since the mid-2000s to reach global assets under management (AUM) of roughly $2.7trn (£1.68trn).

“On the back of this phenomenal rate of growth we’ve seen a lot of product launches. There are more than 5,500 ETF/ETP products out there tracking all kinds of equity, commodity and fixed income benchmarks. Predominantly, ETFs track developed market equities – these dominate the ETF industry at roughly $1.8trn in assets globally.”

The more niche areas of the ETP industry include commodities, which account for roughly $126bn, according to Mr Nossek, while short and leveraged ETPs have AUM of roughly $60bn.

He points out the passive industry “started to fly” in the aftermath of the credit crisis as investors looked for alternate means to protect portfolios and garner market returns.

But Mr Blake warns that while passive strategies are becoming de rigueur, “investors have to be wary, as now indexing is very popular there are lots of things masquerading as indexing”.

He suggests, though, that while “indexing is the new black”, and that strategies such as smart beta or alpha plus can be very valuable and play a part in a portfolio, “investors would be very well served to understand what it is they are really buying”.

Nyree Stewart is features editor at Investment Adviser

Expert view: Long-term outlook

Laith Khalaf, senior analyst at Hargreaves Lansdown, expects the UK market to gradually polarise into low-cost passive funds on the one hand and active managers with a proven track record on the other.

“The middle ground hitherto inhabited by the closet tracker is being eroded, as investors become more savvy and demand outperformance from their active managers,” he says.