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Doe ETF's have an achilles heel?


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Morningstar estimates that some time in 2019, the percentage of assets held by exchange-traded funds in the US ÃÆâ€â„¢ÃƒÆ’ƒâہ¡ÃƒÆ’‚¢ÃƒÆ’¢Ã¢Ã¢Ã¢Ã¢â€š¬Ã…¡Ãƒâ€šÃ‚¬ÃƒÆ’…¡Ãƒâہ¡ÃƒÆ’‚¬ÃƒÆ’¢Ã¢Ã¢Ã¢Ã¢â‚¬Å¡Ã‚¬Ãƒâ€¦Ã‚¡ÃƒÆ’‚¬Ãƒâ€Â¦ÃƒÆ’¢Ã¢Ã¢â‚¬Å¡Ã‚¬Ãƒâ€¦Ã¢â‚¬Å“ those index-hugging passive vehicles ÃÆâ€â„¢ÃƒÆ’ƒâہ¡ÃƒÆ’‚¢ÃƒÆ’¢Ã¢Ã¢Ã¢Ã¢â€š¬Ã…¡Ãƒâ€šÃ‚¬ÃƒÆ’…¡Ãƒâہ¡ÃƒÆ’‚¬ÃƒÆ’¢Ã¢Ã¢Ã¢Ã¢â‚¬Å¡Ã‚¬Ãƒâ€¦Ã‚¡ÃƒÆ’‚¬Ãƒâ€Â¦ÃƒÆ’¢Ã¢Ã¢â‚¬Å¡Ã‚¬Ãƒâ€¦Ã¢â‚¬Å“ will break through the 50 per cent barrier from their current level of about 48 per cent.


The research firm says through the first 11 months of last year, US investors pulled an estimated $US150 billion from actively run funds across asset different classes, excluding money markets. In contrast, they added $US395 billion to passive funds, according to Morningstar.


Importantly, this trend was particularly pronounced when markets got rocky. In November, as volatility rose, investors redeemed about $US50 billion from active funds, while index funds took in a similar amount...

- or, as ETFs grew, volatility did, as well. Expect tears.
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While reading something entirely unrelated, I came across this chart.


As can be seen, the Vix has been in a steadily downward path from its highs of 53 in Aug 2015 until it got below 10 in late 2017.

Since then its all uphill.We have had intraday highs of 36 in late december.

Interesting times.

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  • 8 months later...
A few days ago, Bloomberg Markets recorded the 'end of an era' and an 'epic shift' which has not been widely reported in Australia.


Bloomberg called it a major turning point in history. "In August, the investment industry reached one of the biggest milestones in its modern history."


For the first time ever in the US, index-based equity funds (including ETFs) exceeded actively-managed equity funds. The threshold was that, according to Morningstar estimates, inflows into passive US equity funds in the year to August 2019 were US$89 billion (to US$4.27 trillion) versus active outflows of US$124 billion (to US$4.26 trillion).


The momentum is irreversible. Although ETFs in Australia are growing strongly, they still account for only 2.5% of assets under management here, where managed funds dominate. There's a lot of contestable space. Research issued by Investment Trends this week reveals:


"When asked what proportion of total client investments they would prefer to allocate to passive investments over actively-managed investments, the average planner now prefers to allocate 33% of client portfolios into index-tracking investments, up significantly from 19% in 2018."



But not all index funds are passive, and, sadly, quite a few managed funds hug the index.


The other thing; a decision still has to be made as to allocation. And that introduces just another level of complexity and learning.

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  • 1 year later...

Now that ETFs have been around for 30 years, and constitute a significant part of market participation, in terms of trading and assets held, there is some revision being touted that the instruments many not be as dumb as they are implied to be.

This article in the Financial Times, via the AFR https://www.afr.com/wealth/investing/a-theo...20201230-p56qw1


.... indices that passive funds track have over time morphed from being supposedly neutral snapshots of markets into something that actually exerts power over them, thanks to the growth of passive investing....

... The more money index funds garner, the better their holdings do in exact proportion to their weighting, and the harder it is for traditional discretionary investors to keep up.


The broader growth trend also partly underpins rising valuations. The average fund manager typically holds about 4 to 5 per cent of assets in cash, as a buffer against investor outflows or to take advantage of opportunities that may arise. But index funds are fully invested.


In other words, three decades ago every $1 that went into equity funds meant 95 cents would actually go into stocks. Today it is closer to the full buck. Given the trillions of dollars that have gushed into cash lean index funds, it leads to a secular increase in valuations....

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