No sign of passives slowing down as capabilities expand

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Investing in Passives - September 2016

No sign of passives slowing down as capabilities expand

Interest in passive investing strategies has grown in recent months. Figures from the Investment Association show that in July, tracker funds had accumulated £132.5bn funds under management, equivalent to 12.1 per cent of the industry total. This compares to a 10.5 per cent share in July 2015 at £106.9bn funds under management. 

It’s not just tracker funds that are gaining in popularity. Exchange-traded funds (ETFs) and other exchange-traded products (ETPs), including commodities, have also grown in size in the UK and Europe. 

The latest BlackRock Global ETP Landscape report shows global ETP assets reached $3.3trn (£2.5trn) at the end of July 2016, up from $3trn a year earlier.

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Fixed income is also gaining in popularity as well as traditional equity products. BlackRock’s figures reveal year-to-date flows across all fixed income ETPs reached $80.6bn at the end of July, compared with $57.9bn into equity products. 

Blanca Koenig, head of fixed income ETF product strategy at Deutsche Asset Management, notes: “The fixed income ETF market is expanding rapidly. This is partly a natural evolution of the ETF market as it broadens away from offering equity index exposure, but it’s also to do with the way bond markets have changed and, as a result, investors are now favouring additional ways to acquire their bond exposure.

“Liquidity has fallen in parts of the bond market in recent years as banks aren’t trading and holding bonds as much as they used to. That’s created a demand for new ways to trade bond exposures and bond ETFs have emerged as part of the solution. This makes the bond market more transparent and accessible.”

Howie Li, executive director and co-head of Canvas at ETF Securities, suggests the move into the fixed income space has been a result of investors questioning how they construct a bond portfolio. 

“We’ve seen repeated political and economic events that test the portfolios of all investors. For example, the unexpected sell-off in equities and Brexit, as well as the upcoming Italian referendum and US elections. Despite these headwinds, fixed income continues to be viewed as a safe haven asset and investors are prepared to take on more risk to find the yield required as low and negative interest rates are likely to persist for longer. As investors recognise that periods of market stress are more regular, they have been looking for a better way to invest for the long term.”

Part of this evolution of the ETF and passive industry is the construction of alternatively weighted indices and enhanced indexing vehicles, though Morningstar figures suggest expansion has been slow in Europe. 

Mr Li adds: “The fundamental approach [in fixed income] prioritises quality and favours the strongest bond issuers, not the largest issuers of debt. Rather than simply looking at the amount of total debt issued, this approach looks at the issuer’s ability to repay this debt by assessing defined parameters, such as indebtedness, size, social stability or asset quality as well as recognising the effects of yield and liquidity. These solutions are being packaged as ETFs because of their additional liquidity.”