The wealth democratiser: The success story of ETFs

Yasmine Raso

Senior Journalist, Financial Newswire

1 May 2023

MARKET SECTOR ANALYSIS

2023 has been a celebratory year for exchange traded funds (ETFs). Not only have they marked decades-long milestones of listings on Australian and global exchanges, but ETFs have also recently enjoyed years of strong performance amidst a global pandemic, inflation, geopolitical tensions and the ensuing market volatility.

As a dark horse of investing, ETFs have climbed the ranks to become for many the investment vehicle of choice due to their power to not only diversify portfolios but also democratise access to investing by offering a more cost-effective and transparent option.

This has seen the industry grow to around USD$9 trillion in assets under management (AUM) globally and Australia close out 2022 with nearly AUD$134 billion in AUM. Despite its minority market share across asset classes, ETFs have proven to be a formidable investment product that delivers secure returns for investors and makes a real impact on the path towards a greener global economy.

However, Evan Metcalf, CEO of the now rebranded Global X ETFs Australia – which is marking the 20-year anniversary of its Physical Gold ETF (GOLD) listed on the Australian Securities Exchange (ASX) – believes that the disruptive force of ETFs would not have transpired if it wasn’t triggered by a combination of structural changes and market innovation.

“There’s been some big headwinds for the Australian market like the Royal Commission around financial advice and the spin-off of wealth and product creation away from the major banks in the last five years or so. That’s been a real tailwind for ETFs and has allowed the market to grow quickly,” he told Financial Newswire.

“The COVID-19 pandemic helped as well, with people taking a lot a more time and interest in direct control of their portfolios and a big evolution in the local market as well. I’d also add the rise of technology in general, as well as brokerage platforms and online trading.

“It has made investing more accessible and helped people get investments up and running much easier. The market has also become mature enough to offer people significant choice of investments.

“With all these tailwinds at a particular time where the market was very underdeveloped, ETFs wouldn’t have been in the right place to benefit from that. Australia still has a fair way to go, but there’s a product for most exposures and interests and that will continue to develop as different investment themes come online.”

It’s no secret that ETFs have also evened the playing field in terms of access and affordability of investing, but they are also one of the few vehicles to demolish the boundaries of age, gender and financial literacy.

And as more individuals continue to enter the industry and reap the benefits of an investment product that not only caters to their ever-growing demands and needs but makes them more confident investors, there seems to be no end in sight for the ETF.

30% per annum growth rate

“The ETF industry in Australia is growing at about 30 per cent per annum over a 10-year period. Global growth in the ETF industry is around 17 per cent, so you can see how fast the Australian market is growing,” Kathleen Gallagher, Head of SPDR ETFs Australia and part of State Street Global Advisors – which is celebrating 30 years of its S&P 500 ETF Trust (SPY) listed on the New York Stock Exchange (NYSE) – told Financial Newswire.

“From our research, we found that 70 per cent of Australian investors with ETFs said their overall financial performance has improved from using them and around two-in-three Australians believe ETFs have made them a better investor.

“ETFs are also helping on the front of the fundamentals of investing. It’s about knowing at what price or cost you are investing, having access to diversified asset classes and having the ability to smooth out your exposure to volatility.”

Minh Tieu, the Head of ETF Capital Markets for Vanguard Australia – which is currently managing just over AUD$7.8 billion among its ETFs and holds a 57 per cent Australian market share – also agreed with these sentiments.

“ETFs are a very cost-effective way for an investor to get a well-diversified portfolio at the click of a few buttons and we’re very proud of that,” he said.

“With the proliferation of ETFs and the education around how to use ETFs along with technological enhancements and trading platforms, a well-diversified ETF gives them access to investment options which they may not have had before or thought about previously.

“It comes down to ease of access and transparency. Indexing in general and management-expense ratios have helped drive the cost of investing down and the size of minimum entry fees have improved. You could be looking at around $5,000 to get into a fund, whereas you could get into an ETF for around $20 to $50.

“It’s made investing easier for people and they can see that. With technology, people want things at their fingertips that are tangible and that they can interact with. ETFs make that possible.”

But just as every other innovative and disruptive market entrant before it, ETFs are no stranger to product proliferation as non-traditional providers also attempt to capitalise on the industry’s rapid rise to fame.

While this may mean endless options for investors, product “fads” emerging alongside market expansion to include different thematics – with some targeting riskier asset classes – have become a cause for concern among the industry stalwarts.

“At its core, an ETF should be a broadly diversified index tracking product. The definition of an ETF has grown over the years as investors adopt ETFs as their investment vehicle of choice. We’ve seen fund managers and other asset managers take advantage of ETFs as a distribution vehicle and we saw a lot of active ETFs come to market. We’ve seen some very niche or complex ETFs come to market that are risky in nature, but they’re all being called ‘active’,” Tieu said.

“ETFs have different risk characteristics and investors need to be aware of that when making that investment choice. There are a lot of ETFs that have come to market that seem to be picking up on themes or hot topics or hot sectors. I would caution investors from jumping into those; if you want to invest in those, I would be doing it with a core satellite approach which is what Vanguard has as a principle for investment success.”

“We have had active managers who are traditionally fund managers running actively managed ETFs. Several of them have the assumption that funds can be put in an ETF ‘wrapper’, which is a different way people can buy and sell, and they will sell more of the fund because ETFs are performing well. That has been proven to not always be the case,” Betashares’ Senior Investment Strategist, Cameron Gleeson, told Financial Newswire.

Investors vs speculators

Tieu also highlighted a trend among investors that he suggests has encouraged the proliferation of products failing to capture the intended core proposition and philosophy of ETFs.

“I see ETF investors generally falling into two categories. One is investors – they have a strategy, they have a goal in mind and are building a portfolio to reach that goal over time,” he said.

“Then you have speculators – people who are trading in products like cryptocurrency and more niche ETFs. But speculation has its own inherent risks like trying to time the market, getting into the latest hot topic or fad at the time and getting out at the right time. Trading regularly also adds costs. Costs detract from your performance at the end of the day.

“Vanguard’s products and the way we build them is catered more towards long-term investment success for the investors, not the speculators. However, there is a lot of new products that have come to market that cater more towards the speculators.”

The traditional providers can all agree on one thing: the key differentiator between genuine products and product “fads” is research.

“We’re very conscious of the long-term opportunities around particular themes. Our process around thematic investing is very much a research-driven approach. Globally, we have close to 40 research analysts dedicated to markets, working out the structural long-term trends in the market and where these are likely to go over five, 10 or 20 years,” Metcalf said.

“There needs to be a sustainable long-term case for a particular theme before we would look at it as a product. There’s certainly been some products in the market, maybe not so much in Australia but globally, jumping on what’s hot. Our approach is very much geared to the research and to keep to the long-term.

“We understand that markets go up and down and particularly that some of these long-term growth stories are going to be volatile. That’s the nature of growth. We think there’s still a good story in long-term holdings behind many of these types of investments and exposures.”

However, the providers also acknowledged their onus to educate investors about certain products including ETFs remains – and there is still a long way to go.

“Giving people the tools in a granular way and at very low-cost is where our success lies,” Gleeson said.

“We educate advisers and individuals on how to think about portfolios because often people think if they are investing passively, they are throwing away the keys and not really thinking about it. This reduces their financial literacy, and we see that very differently.

“We think that most of the returns in portfolios are from strategic asset allocation, diversified allocation and how assets are combined. Education is a big part of the democratisation of ETFs and we focus on providing the tools, particularly in the core, that allow people to build those portfolios.”

“From an issuer perspective, we have more work to do in terms of educating investors about the benefits of ETFs. This is important as the industry has grown and more products have come onto the market,” Gallagher said.

“It’s allowed investors who use ETFs to be more targeted in how they invest. You’ve gone from broad exposure for a particular market to sectors to smart beta and now recently into ESG. It allows investors to implement their particular investment fleet.”