ETFs poised to outstrip hedge funds

ETFs poised to outstrip hedge funds

The high-profile hedge fund world is about to be surpassed in terms of total assets by the unstoppable juggernaut that is the exchange-traded fund (ETF) industry, new research shows.

Assets held globally in ETFs reached $2.93trn (£1.9trn) at the end of the first quarter of this year, according to research and consultancy firm ETFGI.

Meanwhile, a report from Hedge Fund Research has revealed there was $2.94trn in hedge funds at the same time.

The difference in assets is the closest it has ever been (see top chart) and ETFGI predicts that given the much faster rate of inflows into ETFs seen in recent years, the tracker funds should overtake hedge funds within the second quarter of this year.

In 2014, investors poured $339.7bn into ETFs, whereas hedge funds only raised $76.4bn.

This pattern was repeated in the first quarter of 2015, when ETFs had net inflows of $96bn compared with just $18.2bn for hedge funds.

The industry has witnessed remarkable growth since the first ETF was listed 25 years ago, as more and more investors have bought into the approach of tracking the market at a low cost.

By contrast, hedge funds have been around for 66 years and had built up a substantial following before the first ETF was even listed.

In 1997, there was less than $10bn within the ETF industry. The total assets of $8.2bn were worth about 2.2 per cent of the $367.6bn invested in hedge funds at the time.

Even a decade later there was twice as much money invested in hedge funds as there was in ETFs.

However, the financial crisis hit the hedge fund industry quite severely and, while it quickly recovered and has been growing since the crisis, its growth rate has never come close to matching that of index trackers.

ETFGI said one issue for hedge funds was that “many investors have been disappointed with the performance during the past few years”.

The researcher firm pointed out the HFRI Fund Weighted Composite index, which tracks a broad range of hedge funds and is seen as a benchmark for the industry, had returned significantly less than the rise of the S&P 500 index.

Research by S&P Dow Jones Indices showed that hedge funds substantially underperformed US equities in each of the past four years.

ETFGI said: “With the positive performance of equity markets, many investors have been happy with index returns and fees.

“This situation has benefited ETFs and ETPs [exchange-traded products], which offer an enormous toolbox of index exposures to various markets and asset classes, including hedge fund indices and some active and smart beta exposures.”

The other attraction for ETFs over hedge funds has been cost.

ETFGI said its research showed the “asset-weighted average annual cost for ETFs and ETPs” was 31 basis points, while the standard charges on a hedge fund tended to be a 2 per cent annual fee and then a performance fee of 20 per cent.