Actively managed exchange-traded funds (ETFs) have been gaining popularity in the investment world, with investors shifting their money from active mutual funds to actively managed ETFs in recent years. According to Morningstar data, investors withdrew approximately $2.2 trillion from active mutual funds between 2019 and October 2024, while adding around $603 billion to active ETFs.
Active ETFs have seen positive annual inflows from 2019 to 2023, and are on track for positive inflows in 2024. In contrast, active mutual funds experienced outflows in all but one year (2021), losing $344 billion in the first 10 months of 2024.
“We see active ETFs as the growth engine of active management,” said Bryan Armour, director of passive strategies research for North America at Morningstar. He added that while it is still early days for active ETFs, they have been a bright spot in a challenging market environment.
Mutual funds and ETFs are similar in that they both hold investor assets, but ETFs have become more popular due to the cost advantages they offer compared to mutual funds. ETFs generally have lower fees, making them an attractive option for investors.
Active management involves fund managers actively selecting securities in an attempt to outperform a market benchmark, which typically comes at a higher cost compared to passive investing. Passive investing, used in index funds, involves replicating the returns of a market benchmark like the S&P 500, resulting in lower fees.
Data from Morningstar shows that active mutual funds and ETFs had an average asset-weighted expense ratio of 0.59% in 2023, compared to 0.11% for index funds. Additionally, active managers tend to underperform index funds over the long term, with about 85% of large-cap active mutual funds underperforming the S&P 500 over the past decade.
Despite the challenges faced by actively managed mutual funds, active ETFs have been gaining traction, particularly in niche areas of the market where they offer a cost advantage over mutual funds. ETFs generally have lower fees and are more tax efficient compared to mutual funds, making them an attractive option for investors.
The shift towards ETFs has been evident in the market, with ETF market share relative to mutual fund assets more than doubling over the past decade. While active ETFs currently represent only 8% of overall ETF assets, they are growing rapidly and have been a significant story in the investment space.
Many money managers have converted their active mutual funds into ETFs following a 2019 rule from the Securities and Exchange Commission that allowed for such conversions. According to a Bank of America Securities research note, 121 active mutual funds have become active ETFs, with conversions helping to stem outflows and attract new capital.
However, there are some caveats for investors considering active ETFs. For example, active ETFs may not be available within workplace retirement plans, unlike mutual funds. Additionally, ETFs cannot close to new investors, which may pose challenges for certain investment strategies, especially those that are super niche or concentrated.
Overall, the trend towards actively managed ETFs reflects a broader shift in the investment landscape, with investors increasingly seeking cost-effective and efficient investment options that align with their financial goals.
