Fee-cutting sets up ETFs for the next phase of the boom

Australia’s exchange-traded fund industry is closing in on its best year yet, having already surpassed the record set in 2021 on flows, with momentum showing no sign of slowing.

All up $23.7bn flowed into Australian ETFs in the first 10 months of the year, well up on the $23.2bn that flowed in over 2021. Total industry assets now stand at $232.5bn, again a record.

And it’s not only Australian investors piling into ETFs: 2024 is set to be a record-breaking year both at home and abroad for the booming industry.

Product issuers are making the most of the exuberance, launching new ETFs to keep up with demand. Four products launched in the local market in October alone, including one that provides geared, or leveraged, exposure to the Nasdaq 100.

Bitcoin fever is also shining through. Four of the top five best ETF performers in October were cryptocurrency exposures, all seeing gains of between 17 and 19 per cent. And that was before the post-US election rally that has seen Bitcoin surge to within a whisker of $US100,000.

As ETFs boom, managed funds are struggling to keep up. Indeed, active funds are in negative territory for the year in terms of flows, and unlisted fund flows are just a fraction of the ETF juggernaut.

In a sign of the times, Platinum Asset Management, founded by star stockpicker Kerr Neilson, actually closed one of its funds – a climate transition fund – in recent weeks, handing back money to investors due to low demand.

Others in the market, such as banking giant Macquarie, are doubling down on active ETFs.

The move by ETF providers to bring in zero brokerage fees will only widen the gap with traditional fund managers, who typically charge both management and performance fees.

Betashares, the second-largest ETF provider in the country, has taken it a step further, this month announcing zero brokerage fees for ASX 300 trades done through its platform. Its ETFs are already free of brokerage fees.

Chief executive Alex Vynokur says he wants Betashares “to become the home of investing for Australians”. By removing fees still charged by the likes of CommSec and nabtrade, he’s making his platform more attractive for retail investors at an opportune time: young investors, locked out of the housing market, are diving into ETFs to grow their wealth.

Financial advisers, meanwhile, are recommending ETFs to clients for their diversification benefits and low costs.

Then there’s the Great Wealth Transfer, which promises to shift wealth from baby boomers to younger generations in the years to come, boosting the investment capacity of a cohort looking for better returns than those on offer in term deposits and bank savings accounts.

On the ETF versus unlisted funds front, Vynokur compares the latter to a VCR in the time of video streaming. Ouch.

“More investors are recognising that ETFs are the superior way to build a robust portfolio across asset classes like equities, bonds and commodities,” he tells The Weekend Australian.

“While unlisted funds still provide attractive access points to specific exposures where the underlying asset is less liquid, like private debt or physical real estate, the growing universe of ETFs allow investors to use the convenient and cost-effective investment vehicle across more parts of their portfolio – particularly when it comes to equities and bonds,” he
adds.

While ETFs are recording strong flows, they still only make up a fraction of the overall Australian market – so there’s a lot of room for growth.

In the US, Canada and parts of Europe, ETFs account for more than 20 per cent of managed funds. In Australia, they make up just 4 per cent of the managed funds industry. Australian ETFs are expected to more than double their AUM to exceed $500bn by 2030.

Traditional active managers, meanwhile, including the likes of former powerhouses Magellan and Platinum, are plagued with outflows as investors look for lower fees and better results.

Then there are the listed investment companies, which have also lost out to the ETF wave. Supporters of LICs, such as Australia’s largest, the Australian Foundation Investment Company, and peer Argo, have been scratching their heads at the discounts their funds are trading at, despite solid performances and dividends.

AFIC outperformed the S&P/ASX 200 Accumulation Index last year, returning 15.1 per cent after costs for the 12 months through to June, compared to the index’s 13.5 per cent, and paid out a full-year dividend of 26c.

But its shares are trading at a consistent discount to the fund’s underlying assets. (The shares are currently at a 10 per cent discount.)

It’s a similar story at Argo. Unlike a lot of the market, both stocks are actually trading below what they were a couple of years ago. The market has shifted, with LICs seemingly out of favour, even at a big discount.

And there’s no sign of ETF growth slowing. Indeed, with the ETF universe expanding, it opens the door to more flows.

For Vynokur, while core ETF allocations will remain with international and Australian equities, as well as fixed income, investors will increasingly use the growing ETF universe to make more precise allocations across thematic, country-specific and commodity exposures.

This article first appeared in The Australian.