Last year was a big moment for the Canadian ETF industry but an industry insider has predicted a wave of fund closures in the overcrowded sector.
Mark Noble, Senior Vice President, ETF Strategy at Horizons ETFs, believes 2018 represented a regime change for the country’s asset management profession as ETFs outsold mutual funds for the only time apart from the 2008-09 financial crisis, which he believes is an unfair comparison because the industry was so young.
ETFs have capitalized on the downward trend for mutual funds, culminating in last year’s eye-opening $20 billion of inflows while mutual funds slumped to about $8 billion.
Noble said these statistics represent a pivotal moment, especially given the fact most of that $8 billion was made up primarily of balanced funds and fund-to-fund products sold to bank branches. The actual sales of standalone mutual funds were redemptions in excess of $16 billion.
“The moment happened,” he told WP. “ETFs overtook mutual funds as the go-to investment products for Canadian investors.”
Noble puts this down to the drawdown – similar to 2008 – where underperforming mutual funds were sold and investors, as well as sitting in cash, ploughed proceeds back into the market in the form of low-cost ETFs. He added that there is also a psychology element to this.
He said: “The vast majority of mutual funds on the equity side are actively managed and the managers are always saying you are going to need this active management when the market goes down. Then the market goes down and they are down just as much as the indices. That’s just pouring cold water on the face of investors and they just say ‘I’m done’ and move on.
“2008-09 was the big moment that the ETF came of age and this is the big moment the ETF industry overtakes mutual funds as the investment product of choice.”
Noble tempered his bullishness about the ETF space by pointing out that the mutual fund industry still dwarfs it in size, although he expects sales to be comparable moving forward and, when the market performance is negative, ETFs to outsell mutual funds.
Amid all this good news for ETFs, however, there are signs that the space is reaching peak capacity and Noble believes there will be a survival-of-the-fittest element to the next two years as weak funds are closed and the industry streamlines.
More competitors are set to flood into the market, with the Big 5 banks flexing their muscles as some play catch-up in staking a claim for some ETF turf.
Noble said they will have no problem making money thanks to their distribution channels but fears for independents who haven’t yet hit upon a star performer. He added that there is simply too many Canadian products, although said that’s to be expected given the disruptive nature of the sector.
Last year finished with about 140 ETF launches in Canada, a $180 billion market, compared to about 250 in the US, a $3 trillion market. Noble said Canada’s depth of market can’t support 35 ETF providers and approximately 800 listings, especially given the general tipping point for profitability for a fund is somewhere in the $20-40 million range.
He said: “Some of these new entrants did well but I think the majority of them are going to have a lot of trouble finding a home for new assets.
“One of the big primary decision-makers when people are buying ETFs is track record and volume, rightly or wrongly, which means they go to the incumbent ETFs. So the flows continue to go to the top 10 ETF providers in Canada, leaving the other 20 in the dark unless they have unique distribution qualities, which I think the large Canadian banks have.
“For the independent, it’s going to be a challenge and I don’t see the number of products out there surviving.”
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