ETFs – a game changer for the asset management industry

ETFs are set to play a key role in the disruption of the asset management. Having been around for 20 years, ETFs have firmly established themselves within the investment landscape; but their true time to shine is now as regulatory scrutiny, disruptive technology and changing investor preferences force asset managers to change and adapt their traditional business models.

ETFs are already bigger than hedge funds and index tracker funds, and are expected to overtake mutual funds within the next ten years. Currently the global ETF market is at US$5 trillion and it is expected to more than double in the next five years.

The traditional asset management industry is at an inflection point. Regulatory scrutiny around value for money and transparency, disruptive technology and new investor preferences, necessitate that firms adapt and innovate if they are to flourish in the new order. Those that look to protect old school business models and fail to adapt to the new investment paradigm will flounder as true innovators capture the spoils.

In a bid to thrive in this new world, entities across the asset management ecosystem are embracing a piece of open source technology they can use to reboot their business models and meet these challenges head on.

While ETFs have existed for over 20 years, only recently have they established themselves firmly within the investment landscape. Having overtaken hedge funds and index tracker funds in terms of assets now it seems, is their time to shine. Cost efficient, transparent and providing democratic access to an ever growing number of sectors, themes, regions and asset classes; ETFs tick a number of key regulatory boxes and for many strategies, can be a better delivery mechanism than the traditional mutual fund. Mutual Fund 2.0 if you like.

Importantly and contrary to popular belief, ETF does not equal passive. ETFs are being used to deliver both active and passive strategies.

The penetration of ETFs in the European retail market will be a key driver of future growth. MIFID II will provide significant tailwinds for ETFs across Europe, supporting a level playing field for retail distribution and providing more transparency around the true liquidity of ETFs.

In the US there is an even split between institutional and retail assets. In Europe the ETF retail market is small because of the commission based business models that developed pre MIFID II. As IFAs and wealth managers adjust to the ban on inducements and look to deliver value through a fee based model, ETFs will become more prevalent in retail investor portfolios.

The establishment of robo-advice firms exclusively using ETFs as portfolio building blocks in Europe gives an important insight into the direction of travel for the retail advice market and the opportunity to target the mass-market and mass-affluent segments open to disruptive technologies.

Regulators will continue to play a key part in the development of the ETF story. Broad acceptance of non-transparent active ETFs and exchange traded share classes of existing mutual funds are two key potential developments that would support the growth of the industry and provide investors with access to a whole new range of investment strategies through an ETF wrapper.

“It is our view that most asset managers will have an ETF offering in the future, using the technology to revitalise their product range and open up new distribution channels. ETFs will be viewed simply as a better delivery mechanism for their strategies; not as a stand-alone business,” Jorge Fernandez Revilla, KPMG in Ireland.

The line between traditional service provider and issuer activities are now blurring as providers invest to compete. As such, internal builds can be minimised and existing manager functions can support the oversight requirements. Asset managers put off by the historical cost of developing an ETF capability should revisit these assumptions and explore the many different ways of providing client access to their strategies through the ETF wrapper.

It is true that there are still some key inefficiencies in the European market that need to be resolved to fully support the ETF success story, however, we are starting to see the ecosystem come together to fix these problems. In many ways the growth of ETFs is necessitating that these inefficiencies are being addressed, benefiting not just ETFs, but the industry as a whole.

Assets invested in European-listed ETFs and products are expected to exceed US$1 trillion in 2018. Predictions around future growth are contingent on a number of variables, but if ETFs continue to grow at their current pace in Europe, assets will more than double in the next five years. The fact that European ETFs currently only account for 5% of the mutual funds market, coupled with their potential for disruption; leads us to believe that the asset gathering opportunity is even greater.

KPMG’s ETF expert Jorge Fernandez Revilla will moderate an ETF panel on Fund Forum. He will bring together some of the world’s leading European ETF experts to the stage to examine what’s driving this phenomenal growth and how firms across the asset management eco-system are positioning themselves for success.

Look for KPMG at the FundForum to talk about this exciting topic.