Is Canada’s ETF growth sustainable?

In June, Canadian ETFs attracted more than $3 billion in new money for the second straight month, but what exactly is driving the growth?

Is Canada’s ETF growth sustainable?

Canada’s ETF industry continues to break records. In June, Canadian ETFs attracted more than $3 billion in new money for the second straight month, but can that growth be sustained and what are some of the key drivers behind the record-breaking adoption in exchange traded funds?

Core ETFs have been an integral part of ETFs’ rapid rise and the demand for these low cost funds is stronger than ever among both individual investors and institutions. According to Alan Green, director and head of iShares Capital Markets for BlackRock Canada, institutions are using core exposures for one main reason: as an alternative to derivatives.

“Previously, an institution may have accessed the S&P500 via a future or swap contract, but if they’re doing that on a fully funded basis now, those swaps, derivatives and futures will be a lot more expensive,” Green says. “At the same time, as the core range of ETFs has grown out, price competition has seen costs contract significantly. It’s almost like a level playing field now between the ETF and derivatives exposure.”

This year, Green has recognized a correlation between Canada’s lagging stock market and flows into international exposure ETFs. It’s been the biggest year ever for international ETFs in Canada and, across the globe, the majority of money has been going into international exposures in the equity space, too.

“In the core range, we try to give equity and fixed income options both domestically and internationally. The industry has close to 500 ETFs in Canada but with a handful of well-known tickers you can build a solid portfolio,” Green says. “50% of ETF flows go into the core range exposures, but 90% of the product launches are not in those core exposures.”

Fixed income is the fastest growing category of exchange traded funds in Canada, with bond ETFs seeing more new money than any other asset class in the first half of 2017. Green believes two key factors are behind this rise in popularity: the liquidity of the bond market and the impact of regulation post-financial crisis.

“The bond market has been impacted the most by regulation given that it’s a very over-the-counter service, especially in Canada where 80% of Canadian bonds are dealt over the counter in the corporate world,” Green says. “It can sometimes be prohibitively expensive for an individual investor or advisor to access single name bond exposures. Bond ETFs deliver huge cost saving and diversification, but a lot of the popularity is fundamentally about liquidity.”

Green is not surprised by the growth seen in the ETF market and, if anything, he thinks it may accelerate. The performance of the Canadian ETF industry is in-line with rising popularity on a global level. “The half-life of the expansion of assets has come down every single year,” Green says. “In the US and Europe, we broke 2016 levels by midyear 2017, which is almost exactly consistent to the Canadian market. There are very similar trends going on around the world, which is causing this shift in using ETFs as an exposure tool.”

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