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The shift from actively managed to passive index-tracking funds has accelerated this year, boosted by a jump in flows to bond and mixed-asset funds, research from J.P. Morgan Chase & Co. shows.
The share of assets under management held in U.S.-domiciled passive bond and hybrid funds – the latter of which invest in more than one asset class, such as equity, fixed income and gold, for example – rose to 28.5 per cent of all equivalent U.S. fund assets by August 2022 from 23 per cent at year-end 2019.
“There is a secular move as a greater number of advisors use low-cost passive bond investments to replace their active bond managers,” says Peter Sleep, senior portfolio manager at 7 Investment Management LLP.
Passive funds’ share of total U.S.-domiciled equity fund assets under management passed the halfway mark at the beginning of the year, rising less steeply than their fixed-income counterparts to 52 per cent by August this year from a 46 per cent share at the end of 2019, J.P. Morgan found.
Mr. Sleep says bond exchange-traded funds (ETFs) were now catching up with their more broadly adopted equity ETF counterparts as the offering had broadened and become more cost-competitive. The vast majority of ETFs are managed passively and follow an index.
The increase in flows to passive fixed-income funds was all the more notable given the rapid and dramatic sell-off in bonds this year, Mr. Sleep says.
“But bonds now are at multi-year lows and investors can see value in areas like long-duration government bonds and corporate debt,” he adds.
Jane Sloan, head of iShares and index investing EMEA at BlackRock Inc., points out that half of all inflows into global ETFs this year had been into bond ETFs, but she says the flows only tell part of the story.
“Trading volumes in bond ETFs across the global industry are up 35 per cent since both 2020 and 2021, which indicates more people are using ETFs to trade bonds as they move within fixed-income asset classes,” Ms. Sloan adds.
For some investors, there’s a further incentive for exiting their actively managed fixed-income fund – tax-loss harvesting.
“Investors have losses to harvest in fixed income portfolios for the first time in many, many years. This is benefiting index ETFs as active mutual fund owners can sell their holdings at a loss to recognize a tax benefit, then rotate to ETFs to maintain their asset allocation,” says Drew Pettit, director of ETF analysis and strategy at Citi Research.
Data from EPFR Global indicate that the movement from active to passive funds is not just happening in the U.S. but is a global phenomenon.
Cumulative global fund flows for the year to mid-October show that passive equity and bond funds attracted US$379-billion and US$178-billion, respectively, while active equity and bond funds bled US$215-billion and US$442-billion, respectively.
“With so much value around, it is quicker and easier for investors to capture the market returns through keenly priced tracker funds or ETFs than launch a search for an active manager. International ETF flow data for October 2022 showed that investors bought all sectors except inflation-protected bonds,” Ms. Sleep says.
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