Going beyond the ETFs vs. mutual funds debate

Investment industry insider explains why a bigger story is driving recent Canadian fund flow trends

Going beyond the ETFs vs. mutual funds debate

For outsiders paying attention to investment fund industry statistics, it might seem as if 2021 has been a turning point in the ongoing battle between ETFs and mutual funds.

According to monthly statistics published by the Investment Funds Institute of Canada (IFIC), Canadian mutual funds have been seeing larger net inflows than ETFs for the year to date. In all of the previous nine months of available data, reported net sales of mutual funds have surpassed those for ETFs, apparently reversing the trend of ETFs outselling mutual funds in recent years past.

But according to Jonathan Hartman, vice president and head of Advisor Channel Sales at RBC Global Asset Management (RBC GAM), that’s a gross oversimplification of the situation.

“People can make data say whatever they want it to say,” Hartman told Wealth Professional. “Some will point to flows into Canadian ETFs as a percentage of assets and say ETFs are dominating mutual funds. You might also hear from a mutual fund manager who’ll say ‘look at the recovery in mutual funds'."

As an institution that offers both mutual funds and ETFs, RBC GAM considers both options as solid investment choices for investors and advisors in constructing portfolios. And rather than seeing a zero-sum game playing out between two competing products, Hartman said they view the numbers as a sign of a dynamic and growing fund industry.

RBC GAM is seeing industry mutual funds account for a slightly larger share of gross sales this year, he said, going from 65% to 70%. Conversely, the share of industry gross sales represented by ETFs has steadily increased from 25% to as high as 35% over the past five years, though that has moderated to around 30% for 2021 so far.

“People can also look at industry net sales data, and it has jumped around over the past five years,” Hartman said. “If you look back over the past five years, there have been some periods when ETFs represented as much as 100% of investment fund net sales. But this year, ETFs have accounted for roughly 25% of investment fund net sales overall.”

That might sound like a point for mutual funds. But consider the aggregate AUM for both products across the industry, and it reveals how ETFs are punching above their weight. According to Hartman, Canadian mutual funds hold about $2 trillion in AUM, while their ETF counterparts hold $300 billion.

In other words, if the Canadian investment fund industry were an investment portfolio, it would reflect an 85-15 asset split between mutual funds and ETFs, even as the net sales and gross sales figures show a 75-25 and 70-30 split, respectively.

“ETFs are continuing to grow as clients and advisors become more aware of the benefits of ETF investing, but it's growing more in line with what you see in other markets,” he said. “Saying that, mutual funds remain the most commonly used vehicle in Canada, especially among investors with $25,000 to $50,000 to invest.”

With a multi-decade head start over ETFs, it’s hardly surprising how entrenched mutual funds are among Canadian investors. But for people who look for lower cost-solutions to take strategic positions, or want precision tools for tactical exposures to a short-term investment view, Hartman said index ETFs offer a good choice.

“We think index ETFs make sense for allocations in heavily analyzed areas of the market,” he said. “For example, the U.S. equity market gets a lot of attention from advisors, analysts, and portfolio managers, so it may be harder to generate alpha from active management.  Conversely, there may be more opportunity to add value in areas like credit and emerging-market equities.”

Redemptions prompted by decisions to switch between markets or asset classes, Hartman said, are a perfect example of why mutual fund outflows don’t necessarily reflect pessimism on mutual funds. There’s also the fact that investment funds see a natural level of outflows every year as investors run up against life-related expenses – funding retirement or buying a home, for example.

As for the recent trends in net fund sales, Hartman believes the recent large inflows into mutual funds point to a change in investor behaviour. Over the past 18 months, he says there’s been a fairly significant move of cash back into assets higher on the risk spectrum, namely bonds and equities.

“Money is moving from GICs and deposits back towards mutual funds and ETFs that own stocks and bonds, or balanced portfolios,” Hartman said. “When you see that movement of cash back, with mutual funds being the most commonly used investment vehicle, you also see mutual funds getting their fair share of that volume.”

Looking further to the future, he sees advisors continuing to be key players and trend-drivers for Canada’s investment fund space. As advisors continue helping Canadians not just with investments but with their overall wealth planning, he believes the industry will see a greater demand for managed money, which will include both mutual funds and ETFs.

“We believe that the choice between mutual funds and ETFs is not really based on the structure as much as it is on what the advisor or the client is trying to achieve,” he said. “As the largest asset manager in Canada, we’re proud to be able to bring both those options to investors, and to help investors and advisors make informed decisions on what's best for them. And we certainly see a bright future ahead for the industry.”