Not every index idea needs active support. The future favors extreme scale and extreme personalization . . . and with the right moving parts, small solutions will inherit the earth.
We were already well on the way to Peak Fund before the pandemic gave all the asset management complexes a free reset.
With roughly 2,000 exchange-traded funds on the market, a staggering amount of money was parked in copycat portfolios that only existed to take up space on the industry shelf.
And while innovation is endless, communicating exactly what purpose a new fund serves for retail investors is challenging, especially when there isn’t a long track record that demonstrates performance across the market cycle.
Then the pandemic tested all the models simultaneously. Fund complexes have been quick to pull the plug on portfolios that buckled in the COVID crash.
After all, when the flows were thin to begin with, there just isn’t much reason to support novelty for its own sake . . . especially when it could take years for battered niche funds to shake off the stigma and earn their spot in the investment universe.
Hundreds of funds have gone away in the last eight months. I suspect that in the next year, we could see several hundred others vanish or get folded into more robust products.
It’s an extinction event. And as such, the asset management industry that emerges will be more nimble, more relevant than ever and better equipped to conquer the world.
That’s why we’ve launched our Research & Macro commentary site. We want to make sure you’re ahead of the future.
Start with the flows
Every asset manager took a hit in February. AUM numbers that were projected to expand at a healthy annual rate of 10% or more suddenly collapsed 10-25%.
In that kind of shock, triage takes over. Operating resources need to move toward strength, even if that starves solutions that were only marginally viable in the first place.
And in the aftermath, a conservative strategy can persist for years. Fund complexes that prided themselves on having the most diversified range of solutions go back to basics, courting core allocations while letting the periphery wither.
When everyone is chasing the same core, the landscape favors the biggest incumbents who can cut fees as close to zero as it gets on what amounts to a commoditized product.
All S&P 500 funds look more or less alike. Broad market access is a commodity now. While giants can still make money because they’re gigantic, trying to compete in that world when you’re small is a disaster . . . unless you can find a compelling point of differentiation.
Giants like BlackRock and Invesco are still struggling to catch up to where they were last year. They’re hungry for assets and the core is where enough assets are parked to move their gigantic needles.
A few months ago, BlackRock was still $110 billion behind 2019 AUM levels. While that’s only a bump in the road for a $7.4 trillion behemoth, it’s still a lot of real money.
Rebuilding it with new funds would take forever even if every launch manages to capture $50 million or more in the first year. And while natural market appreciation can close the gap, people are unwilling to trust the market to provide the glide now.
The VIX remains elevated. The economy is fragile. And when investors get nervous, stuck money shakes loose from solutions that felt good enough for years or even decades.
Gravity favors the giants. But investor inertia took a hit in the crash. Some review their allocations and conclude that there’s safety in the core, in which case big funds get bigger.
Others look for a little more nuance. SPY has been on the market since 1993. There’s been a lot of refinement along the way to entice investors who feel that the previous generation’s funds failed them.
Big and/or beautiful
Put together a client portfolio out of the right moving parts and the number of funds available really doesn’t matter.
The retail core probably looks a lot like the S&P 500, charging a minimal annual fee in exchange for something like market-neutral performance. For most clients, that’s practically enough to justify keeping their assets under your supervision.
But we all want to give and receive a differentiated experience. Modern technology gives every advisor the ability to generate what amounts to bespoke “funds” for every retail investor.
Some incorporate better tax treatment or compensate around concentrated positions. Others factor in different economic assumptions to fit a given client’s risk tolerance or employ screens to support a thematic interest or world view.
Then there are lifecycle options that allow the portfolio to mature with the client, pivoting from speculative growth early on to a less volatile posture in retirement.
No matter how the details shake out, the goal is to provide a portfolio perfectly matched to who the client is and where he or she wants to go. Depending on the advisor’s resources and ambition, every client can get a unique “fund of funds” experience.
These micro-funds don’t need to be publicly traded, of course. Few will ever add up to more than a few million dollars in AUM.
From an advisory perspective, the only real attraction of the ETF format comes when you want to market your client experience beyond your client base. In that case, congratulations, you're an asset manager.
Will every client need access to every commercial ETF that Wall Street has ever devised? Not at all. We pick from the opportunities we have at the moment, and perfection is always a moving target.
Let weak funds die because they can’t get enough market traction. If demand comes around, they’ll come back.
But if you’re running the funds, it’s vital to be able to communicate what makes them special. Every truly viable portfolio needs to matter, to fill some unique niche in the investment ecosystem.
Otherwise, you’re just waiting for the next COVID-scale meteor to hit.
