FLCA - Can Active And Fixed Income ETFs Keep Their Fund Flow Momentum In 2024?

2024-01-10 22:40:00 ET

Summary

• The rising popularity of active and fixed income ETFs.
• Will the fund flow momentum continue for Active and Fixed income ETFs in 2024?
• The potential impact of market uncertainty on ETFs.

Active and fixed income ETFs saw a significant upswing in popularity amongst investors last year. Andres Rincon, Head of ETF Sales and Strategy at TD Securities, says the search for yield was a key reason why and expects that trend to continue.

Greg Bonnell: There have been no shortage of concerns for investors in the past year, from the economy, to inflation and interest rates. But despite all that, exchange traded funds in Canada saw one of the best years when it came to fund flows. So where were investors putting their money to work?

Joining us now to discuss, Andres Rincon, Head of ETF Sales and Strategy at TD Securities. Andres, great to have you back on the program.

Andres Rincon: Thank you, Greg. Thanks for having me.

Greg Bonnell: It feels like we've been living through a wall of worry for quite some time now - it's just sort of that line, we could pick anything and say, oh, I'm a little concerned about this. But in terms of fund flows, a very interesting year we've got behind us for our ETFs. Walk me through it.

Andres Rincon: And you actually mentioned that we had one of the best years, actually, for ETFs over the last five years. And that's to the tune of $40 billion that the Canadian ETF industry had in inflows this year. And to put it into contrast, the mutual fund industry saw $50 billion in outflows.

So that's a big swing between ETFs and mutual funds. Obviously, a lot of investors in Canada are favoring ETFs for their investments. And back to your point - where are they favoring and where are they putting their money? Well, this last year was the year of active ETFs and the year of fixed income ETFs.

The reason I say that is that they actually brought in quite a bit of inflows this last few years, to the tune of more than 50% of every $1.00 that was coming into Canada - every $0.50 that was coming into Canada was going into fixed income ETFs. And that's really a first for Canada. We haven't seen a lot of money going into fixed income ETFs for some time.

And remember, this is despite the fixed income market only being 33% of AUM in Canada. So a lot of money going into fixed income ETF, a lot of money going into active ETFs. But also, some of the areas, like covered calls, we've seen about $3.5 billion continue to pile in to the covered call ETFs. So this is obviously a very popular area.

And also cash management ETFs - we can say that cash was king last year, obviously, with the higher yields. But with the most recent OSFI ruling, what we've seen is a little bit of a less interest in those ETFs over the last few weeks or so, but still very, very popular in the market in Canada.

Greg Bonnell: I noticed when we put that graphic up for the audience, we talked about fixed income because we knew that people were going to cash earlier in the year. It felt like in the last couple of months of the year, people finally said, OK, if 2024 is the year of not only rate pauses but actual rate cuts, then maybe some cash starts flowing towards a traditional fixed income. Was that sort of like a late sort of end of the year story?

Andres Rincon: No, actually, this happened for most of the year.

Greg Bonnell: Most people got positioned early?

Andres Rincon: Yeah. So we've seen a lot of people get into fixed income early with higher rates - just the need for yield. What we see in Canada and what Canadian investors really, really like is yield. And with higher rates, we're seeing a lot of people pile into fixed income.

Now, obviously, as you mentioned, there's an opportunity - and it's believed that if we see rates going down, that, obviously, many of these funds would do well in this environment.

But also, we are seeing that in the active space. We're seeing a lot of people pick an active manager that knows the fixed income space, which can be a little bit more complicated than your traditional equity space. So we're seeing a lot of money go into active fixed income specifically, too.

Greg Bonnell: I want to talk a bit about that, because, obviously, when you take a look at ETFs, if you have an active manager, as a general rule, the management expense ratio is a little higher because you have someone with their hands on it. But even despite that, investors are not simply going for the passive stuff. They want somebody to have their hands on the portfolio, it seems.

Andres Rincon: And that's a very good question. And Canada is actually a leader in actively managed ETFs globally. We have the largest portion of active ETFs as a percentage of all ETFs that we have here in Canada. And what we're seeing a lot is the transition or the conversion of mutual funds to ETFs - or what we see more in Canada is the launch of an ETF series of an existing mutual fund.

So the traditional mutual fund that you see in Canada, the traditional one, we're seeing now an ETF series of that same fund. Often, they go hand in hand with lower fees. So what ends up happening is that the mutual fund also lowers its fees. So because of that, we're seeing a lot more active strategies in the market.

What I can tell you, as an example, is that we have pretty good insight as to the pipeline for this year and what's going to launch. And I can tell you that most of it is actually active.

Greg Bonnell: Most of it's active. That leads us into a discussion about what we might expect. We're into 2024 now. It's the early innings. We're not even halfway through January yet. But after the year that we had for ETFs in 2023, what are you expecting for 2024?

Andres Rincon: It's still the need for yield is going to be very important. Obviously, that plays hand in hand with fixed income, because there is a good chance that, obviously, we see lower rates, let's say, this year. But what we see is fixed income continuing to become more and more popular.

But we're also covered call and many yielding strategies, like high dividend-paying stocks, let's say, that might be very, very popular this year, and also covered calls. So what I would say is we're going to continue to see yield-enhanced strategies to be popular, but also on the fixed income side to be very popular there.

Greg Bonnell: You and I had discussions last year about covered call ETFs. So remind the audience again about what the product looks like, how it's structured, and some of the pros and cons.

Andres Rincon: On the yield enhanced side?

Greg Bonnell: On the yield enhanced side.

Andres Rincon: Yeah, so what we see now, there's a huge variety of them. We have covered calls. We have put writing. Basically, what they're doing is they're overlaying an option strategy over a normal portfolio - be it the broad S&P 500 or whatever it is. And the sole goal of that is to earn more yield on that portfolio, because we have a very yield-starved audience here in Canada.

People like the consistency of a specific yield. So these are products that come in high demand and generally tend to be a little bit more tax efficient than some other income-generating strategies.

Greg Bonnell: Now, on the other hand, I believe, too, on some of these products, that you will get this yield enhancement through the moves that they're making. But you might miss some of the upside of the underlying asset. You won't capture the full upside if you do get a run.

Andres Rincon: Yes. You're 100% right. So one of the cons of these products is that you're capping - on the covered call ones, for example - you're capping your upside. You're selling a call. So you're basically making an active decision to cap your upside in exchange for yield.

So investors that say in this time, in this environment, I would prefer yield versus growth - this is a very good product for those investors that think that, that want more yield.

Because what they're doing, as you're saying, they're capping their upside by selling calls. But at the same time, they're actually generating more yield that they can take home. And maybe that's very valuable to that client in retirement.

So those strategies have become very, very popular. On the put side, or what we call premium yield funds, there's a lot more selling puts and selling calls - it's a little bit more mixed in that scenario. But generally speaking, covered call writing is what's really the most popular.

We're also seeing it now on bonds. And that's one of the biggest changes that we've seen over the last year or so, where in Canada, we had the first launches of bond cover call ETFs. And those have been very successful. And the yields are very, very high.

Original Post

For further details see: