Actively managed ETFs are proliferating in numbers. What they aren't doing—as a group—is gathering many assets.
Will they ever thrive? A year ago, we were asking the same question: When, if ever, will active ETFs take off?
In what's perhaps becoming an annual assessment of the state of actively managed ETFs, one thing seems clear: The needle in this segment just doesn't move much. These alpha-seeking strategies still barely represent 1% of the total $2-trillion-plus U.S.-listed ETF market, and that's roughly eight years after the first launch. This pocket of the market just doesn't seem to grow.
A look at the few notable successes in this segment points to two key facts. The first is that fixed income has proven far more conducive to active management in ETFs than equity. Secondly, success in this segment often goes hand in hand with star-power.
The three largest active ETFs today are all bond funds. And they all have one of two iconic bond manager brand names behind them: PIMCO—once linked to bond-guru Bill Gross—and DoubleLine, Jeffrey Gundlach's firm.
PIMCO Enhanced Short Maturity Active ETF (MINT | B), $4.6 billion AUM
SPDR DoubleLine Total Return Tactical ETF (TOTL | C), $2.66 billion AUM
PIMCO Total Return Active ETF (BOND | C), $2.59 billion AUM
The reason active management resonates in the fixed-income space is because bond indexing doesn't make as much sense as equity indexing. It favors the most indebted names, and can "bake in capital gains, as bonds have to be sold to match maturity targets," Nadig said.
It's no surprise, then, that of the 10 largest active ETFs in the market today, nine are fixed-income strategies.
The only U.S. equity play that has managed to break the $1-billion-in-assets mark and land among the top 10 funds is a master limited partnership fund, the First Trust North American Energy Infrastructure Fund (EMLP). No other equity play has even come close.
Nontransparent Active Still In Limbo
"There are very few active equity managers with any kind of name-brand recognition or following," Nadig said. "It would take the likes of a Mario Gabelli, or a Magellan or a Contrafund converting to the ETF structure to really move the needle, and they are unlikely to do so until a nontransparent structure gets approved."
U.S. regulators have been very slow to approve nontransparent ETFs, with requests for permission from the likes of Precidian, BlackRock and T. Rowe Price still sitting in the pipeline.
Eaton Vance's exchange-traded managed funds, known as NextShares, are an example of a structure that falls somewhere between an ETF and an open-ended mutual fund, effectively behaving as a nontransparent actively managed ETF. But they aren't actual ETFs.
They trade on an exchange at prices directly linked to the fund's next-determined daily net asset value (NAV) using what's referred to as "NAV-based trading."
And investor adoption hasn't been making headlines yet.
No Great Success Story In Equity
There are also a lot of active equity ETFs that seem to be dying on the vine. Why? For starters, their performance often isn't all what it's billed to be.
The most recent SPIVA scorecard showed that in 2015, more than 66% of active large-cap equity managers underperformed their benchmarks in 12 months. Going back five years, 84% of them underperformed—84%!
Persistence statistics are just as damning. Over the five-year period ending September 2015, not one actively managed equity fund was able to hold on to the "top quartile," according to S&P Dow data. In other words, they may have outperformed at some point, but every one of them was unable to do it consistently over five years.
That unflattering track record is exacerbated by the fact that these active funds often cost more to own, so they need to deliver bigger returns to make up for the difference of owning a cheaper passive strategy. The secret sauce that active managers love to tout doesn't come for free, that's for sure.
Spotting Specific Opportunities
To a firm like RiverFront, the second-largest ETF strategist in the country, with $5.5 billion in total assets, active management is still the way to go. RiverFront has made a strong push into actively managed ETFs with eight launches so far this year, through ALPS and First Trust. The firm has put a lot of time and money into the idea that investors can benefit from active ETFs.
And RiverFront isn't the only company betting big on active management. But as Rob Glownia, analyst with the firm, is quick to point out, the secret to success in this space is in spotting specific opportunities.
Specifically, RiverFront's bet right now is on international equity—an asset class that "will have its day in the sun, especially after the underperformance it's had for really the last five, six years," Glownia said, and one that many investors are underinvested in. RiverFront, as a firm and subadvisor to these active funds, can offer investors these specific, timely exposures they see as prime opportunities.
RiverFront has already found some success in this segment, but with an active global fixed-income strategy. The ALPS-issued RiverFront Strategic Income Fund (RIGS | B-34), came to market in 2013, and has $325 million in assets.
"We believe active gives us flexibility to adapt and to make inter-month changes, where an index is tied to the rules that don't allow for tactical changes," Glownia said.
That may be the case, but convincing investors of that remains difficult, and success can still be elusive. Consider, for example, the Calamos Focus Growth ETF (CFGE | D-78), the actively managed portfolio that picks primarily growth-oriented U.S. large-cap equities.
The fund came to market in July 2014, and marked the entry of a new firm into the ETF space—the Naperville, Ill.-based Calamos, a mutual-fund shop known for its focus on convertibles. But two years later, CFGE is slated to close, with little more than $26 million in total assets.
CFGE came to market with a $25 million seed, according to FactSet. Two years later, it had $26 million in assets and a performance that was hardly anything to write home about. CFGE began trading at $10 a share, and two years later it was right back at that level, having traded at its highest at $11.50 in mid-2015, according to Yahoo Finance.
Calamos may be new to the ETF space, but large players such as BlackRock's iShares—the No. 1 ETF issuer, with more than $800 billion in ETF assets—also know the struggle well.
This past June, iShares said it was pulling the plug on all four of its actively managed equity ETFs—the iShares Enhanced U.S. Large-Cap ETF (IELG | B-82), the iShares Enhanced International Large-Cap ETF (IEIL | C-74), the iShares Enhanced International Small-Cap ETF (IEIS | C-76), and the iShares Enhanced U.S. Small-Cap ETF (IESM | C-78).
The firm still has a small lineup of fixed-income active funds, and one asset allocation active strategy, but as of late August, it would no longer offer active equity ETFs.
Smart Beta A Better Bet?
"To gather assets, actively managed ETFs require a strong brand and/or a strong track record," said Todd Rosenbluth, director of ETF and Mutual Fund Research for S&P Global Market Intelligence. "That's a bit of a chicken/egg situation, since investors want to wait till a product has a long enough record, but the ETF can't hold that many stocks given that it has, say, $6 million in assets."
"Bond ETFs are being helped by strong entrants like PIMCO and DoubleLine, but there are no active asset managers with similar profiles and client bases in the equity mutual fund world that have entered the ETF space," Rosenbluth added. "Many firms like Janus and Goldman Sachs are choosing to launch smart-beta ETFs tied to their active quant mutual fund expertise."
Goldman's move could have contributed to the ongoing malaise affecting active equity ETFs.
Goldman not only branded its original lineup of smart-beta funds as "ActiveBeta—signaling to investors the firm's active sensibility even in passive portfolios—it also brought to market some of the cheapest smart-beta funds ever, proving investors can have a quasi-active ETF that benefits from the expertise of a large active firm for a dirt-cheap price.
The Advisor Role
Finally, active ETFs' struggle to succeed in gathering assets can also be linked to their reluctant adoption by financial advisors.
"The key trend to recognize is that the shift of financial advisors from being commission-based to the AUM model over the past decade has shifted the entire financial advisor value proposition," Michael Kitces, financial advisor and writer behind the blog 'Nerd's Eye View,' recently said. "The pressure is now on advisors themselves to show the value they're creating in the portfolio design and management process, which means they can't just buy active mutual funds—or actively managed ETFs—that the client could have bought themselves in their own online brokerage account."
"If this is the case—advisors are looking to bring active value that clients cannot access themselves—it suggests that the push of fund companies to offer actively managed ETFs in the hopes that they can share in the growth of the ETF marketplace may turn out to be nothing but a mirage," Kitces noted. "I am very skeptical that active ETFs will ever gain much traction amongst financial advisors."