If the UK goes the way of the US, many adventurous investor types reading this column will, within a few years, be buying actively managed exchange traded funds (ETFs), sometimes instead of actively managed investment trusts.
That great British institution — the listed closed-end fund — is under mortal threat from a new product wrapper that its proponents claim is the best of all worlds. There may even be some good investment strategies worth following in this new active ETF world.
A leading indicator is the relaunch by provider HANetf of an ETF called the Global Balanced Fund, ticker ROE, which used to be a thematic technology fund.
Aimed at retail investors, its strategy is to invest at least 80 per cent of its portfolio in equities alongside investing in sovereign bonds. That approach aims to damp volatility and provide some downside protection.
While it is currently a small fund, I believe it is a harbinger of things to come: that is, traditional (and not so traditional) active managers launching active ETFs, with big fund managers such as JPMorgan and Fidelity taking the lead.
Now some of you may be scratching your heads, thinking: “Hang on, I thought these ETFs were supposed to be for passive index tracking, not active stockpicking?”
In the past this was true — you worked out which index you wanted to track then found an ETF to track it cheaply by buying all the constituent stocks.
But what matters here is the engineering behind the wrapper. One reason why passive ETFs have done well is that they do not tend to trade at a discount or premium and you can trade them in real time all (trading) day, unlike a unit trust, on a stockbroking platform such as Hargreaves Lansdown or AJ Bell.
The mechanics behind this involve lots of moving parts including intermediaries called authorised participants (APs) to ensure discounts and premiums do not emerge because they have permission in effect to assemble the same baskets of shares as in the ETFs and then swap them for said ETFs — or vice versa.
The APs do this by checking the list of holdings, working out the net asset value (totalling the value of all the stocks) and then checking to see that there is no discrepancy with the share price. If there is, they get to work and swap out stocks for ETFs or vice versa. Discounts and premiums do occasionally emerge in the most volatile and illiquid markets.
The wrapper I describe can easily be swapped to an active strategy — think of it as having all the best bits of an open-ended unit trust wrapped within a listed fund which looks a bit like a closed end investment trust, with individual stocks. The fund structure is akin to an ETF in the way shares are created and redeemed. I have simplified enormously but I hope you get the drift.
The net effect is that active ETFs have stormed ahead in the US and are now pushing into the EU and UK. Almost all the traditional fund managers I talk to are preparing to enter a market where JPMorgan, Fidelity and Pimco are powering ahead.
Recent HANetf data shows that flows into active ETFs in Europe rose more than 64 per cent between the second quarter and the third to nearly $50bn of assets under management. That same manager reported this year that 94 per cent of investors said they would consider an ETF for their active exposure.
At the global level, Morningstar data shows that in the first half of 2024 actively managed ETFs have captured a quarter of flows despite representing just 7 per cent of ETF assets, with the annualised growth rate running at 20 per cent a year.
Worldwide, actively managed assets grew to a record $889bn after starting the year at $714bn. To say active ETFs are growing in the US is an understatement. US individual investor exposure to active ETFs rose from $9bn assets under management in 2019 to $55.9bn in March, according to a survey by iShares-owner BlackRock. Now more active ETFs are being offered on this side of the Atlantic.
HANetf has five, including a sustainable energy fund from Guinness, another with a focus on healthcare and a sharia compliant global equities fund.
Most of the funds are small, with the big money being run by the likes of JPMorgan. JustETF data found just 15 individual active ETFs with more than £100mn in assets under management, of which JPMorgan had eight followed by Fidelity with three.
These top funds tend to fall into three main categories. The first is where an active layer is added over a more passive strategy to give a tilt to a portfolio — call this a systematic approach. Professional investors like this but I suspect private investors will need a bit more talking around because they are less straightforward.
Another approach is to invest in bonds, where there is plenty of choice. Given the relative paucity of bond-based investment trusts, this makes bond active ETFs a great idea for you and I, especially for short duration, money market-plus strategies.
The third is tilts and strategies based around ESG, which may appeal to some private investors, but not all.
What is interesting about the Global Balanced Fund ETF is that it is following what I call the Nick Train/Terry Smith school of investing — a global equities strategy with a bit of quality, a bit of value and a large to mid cap focus. This is the kind of mainstream equity investing as practised by Finsbury Growth and Income or Alliance Witan Trust.
Other active ETFs are taking a different approach, including the US investor Cathie Wood, who runs Ark Invest.
Her US business bought a UK business called Rize and is now selling technology ETFs that invest in everything from genomics and robotics to broader innovation and technology.
Investment trust stalwart Janus Henderson is going for Japanese equities via their recently launched Janus Henderson Tabula Japan High Conviction Equity.
In Europe, Robeco has entered this market with a suite of active ETFs that use their deep experience in quantitative research to offer institutional grade strategies to investors for global, US and European equities. Those funds are German listed, but you can buy them in the UK.
Previously, many of these launches would have ended up as either traditional unit trusts (and in fact many managers keep their active unit trusts going alongside ETFs) or investment trusts. But the challenges of the investment trust market — no new IPOs for years, big discounts, poor liquidity in many cases — has put off these managers and active ETFs are increasingly seen as the way forward.
My problem is that any research on these active ETFs is next to non-existent and certainly not available to private investors. So, working out what to buy or sell is a real challenge, forcing adventurous types such as me to pay ever closer attention.
David Stevenson is an active private investor. Email: adventurous@ft.com. X: @advinvestor.
https://www.ft.com/content/adcf3072-f097-44a8-85e9-1ff9fe305eb3
