Innovation in Exchange Traded Funds helping investors build long-term wealth.
Think about the experience of investors who want broad exposure to all 200 stocks on the S&P/ASX 200 Index. Before the creation of the Exchange Traded Fund (ETF), they would have had to separately purchase 200 different securities, ensuring each holding amount matched its respective weight in the index.
What’s more, if they had really wanted a portfolio that tracked the index, they would have had to constantly adjust each holding as prices shifted.
Starting in January 1993, investors who wanted exposure to the S&P 500 index could do so with just one purchase. This was thanks to the launch of the SPDR S&P 500® ETF (SPY), now the largest ETF in the world. [1]
Eight years later, State Street Global Advisors brought this innovation to Australia’s shores. On 27 August 2001, the SPDR® S&P®/ASX 200 Fund (ASX: STW) and the SPDR® S&P®/ASX 50 Fund (ASX: SFY) were listed on the Australian Securities Exchange (ASX), giving investors the ability to access Australia’s largest and most liquid companies in a single trade.
Timing, it is said, is everything, and 15 days later, 9/11 struck.
As a result, US markets were closed for six days and promptly plummeted as soon as they reopened. However, an interesting thing happened – market participants began using the price of the SPDR S&P 500® ETF as a stand-in for the valuation of the S&P 500’s constituents. This gave markets breathing room to adjust and correct.
Since then, the benefits of ETFs have been proven time and again. But they don’t just provide markets with an essential source of liquidity. They also offer investors instant diversification at a low cost – a highly attractive proposition as the lower the costs, the higher the return investors can potentially earn.
Twenty years on from this dramatic birth, there are now over 220 ETFs listed on the ASX, with total Assets Under Management (AUM) of $113.5 billion. [2]
What’s surprising is how much of that growth has happened in the past five years. In mid-2016, the total AUM of ETFs was $22.4 billion, meaning the market has almost quintupled since then. This surge of inflows persisted through 2020, passing the Covid stress test with flying colours.
(Editor’s Note: To learn more about the features, benefits and risks of ETFs, take the free ASX online ETF and Exchange Traded Products course).
Setting records amid a global pandemic
As the pandemic spurred a global equities sell-off in March 2020, Australian ETFs saw similar drops, in line with the indices they tracked. Yet, investors did not panic. Instead, they stood firm, using the sell-off as a chance to increase their allocation to ETFs – particularly equity ETFs.
2020 was a record year for Australian ETFs. AUM increased from $61.5 billion at the beginning of 2020 to $94.4 billion by the end of the year [3] – a $32.9 billion increase. Considering the speed at which global markets (including Australia) have recovered, these investor choices have been vindicated.
The global low-interest-rate environment is also a key driver behind this surge. Against a backdrop of uninspiring bond yields, retail and institutional investors alike are pouring into the equity markets. In the first six months of 2021, the total AUM of Australian ETFs had already risen by over $19 billion, putting it on pace to exceed 2020’s performance.
However, underneath this impressive AUM growth, new trends are emerging. While investors are maintaining their core focus on tracking the broad market indices, they are also increasingly looking at themes.
Thinking in themes
The core idea behind ETFs is to give investors an easy and low-cost way to obtain a diverse exposure to the broader market. These products charge typically lower fees because they track an underlying index to deliver returns equal to those of the market.
In recent years, there has been the emergence of what are called “thematic ETFs”. These ETFs track specific investment concepts – such as robotics, electric vehicles, semiconductors or clean energy. These funds were highly popular in 2020 as the technology sector in particular was boosted by the sudden shift to home working and online shopping. By investing in these themes, investors are looking to generate “alpha” – or above-market returns.
Nonetheless, investors should be aware that thematic ETFs may charge higher fees than classic index-tracking ETFs while generally offering lower diversification. Still, given the growth in the ETF space, it is almost inevitable we will see the launch of more thematic ETFs.
One concept in particular looks to become a permanent fixture – sustainability and Environmental, Social and Governance (ESG) factors.
ESG Rising
In less than five years, ESG assets are expected to represent a third of global assets [4]. Investors realise their dollars can make a difference and by neglecting ESG factors, companies could be exposed to greater financial risk. This trend is also reflected in the ETF markets, with US$1.3 trillion expected to flow into global ESG ETFs and indexed managed funds by 2030. [5]
We expect further innovation in ESG ETFs as governments, corporates and investors become increasingly aware of the importance of sustainable investing.
What the future holds – more choices, lower costs
The growth of the Australian ETF landscape over the past five years has impressed. Thanks to several factors, it can only accelerate from here, in State Street’s opinion.
For one, access to ETFs has never been greater. Australian investors now have many options for purchasing ETFs – including their online broker, financial adviser, and superannuation fund. Technology has helped break down barriers. For instance, robo-advisers already permit investors to own fractional shares in various ETFs. The ease with which people can start investing is also why Generation Z and Millennials are investing at a much younger age.
Second, retail investors are also becoming more educated about the advantages ETFs offer. They better understand the importance of diversification and the effects high fees can have on long-term returns. Data from the S&P Dow Jones Indices SPIVA report shows that most active funds underperform the market – whether in Australia or elsewhere – a trend driving investors towards lower-cost indexed investing vehicles such as ETFs.
Finally, the ETF industry will itself continue to create products, becoming more competitive and innovative. This will help drive down fees and give investors more choices than ever.
ETFs have altered the Australian investing landscape for the better. As the market expands and deepens, it should soon reach the point where the country’s investors regard ETFs as their go-to investment vehicle to access markets, particular investment themes or strategies.