The Herd: Are ETFs Changing the Structure of the Markets?

by Craig Basinger, CFA & Shane Obata

 

There is no question Exchange Traded Funds (ETFs) have exploded in popularity. They offer many benefits to investors and their merits are well known. There is also rising evidence ETFs are changing the structure of the markets and how investors behave. Just to show how the popularity of ETFs or passive indexing has risen, the three pie charts show how passive funds/ETFs have been gaining market share over the years. In 1993, passive indexing strategies made up 2.4% of total assets. Now, they have reached 36%. There are studies that indicate over 28% of volume on the U.S. exchanges is ETF-driven.

As the daily net flows for an ETF drive the market makers to execute basket trades for the ETF, there is evidence this is suppressing disparity in performance from one company to the next. It is more blanket buying or selling, indiscriminate and based solely on the targeted index composition. If most of the flows are in the ETFs that track the main indices, then flows trigger broad based buying or selling. We have certainly seen a drop in index disparity (2nd chart), meaning the variance between index member price performance has been historically low for years. Many believe this is attributable to the rise of ETFs and more money invested in index products.

 

Read more

 

Charts are sourced to Bloomberg unless otherwise noted.

This material is provided for general information and is not to be construed as an offer or solicitation for the sale or purchase of securities mentioned herein. Past performance may not be repeated. Every effort has been made to compile this material from reliable sources however no warranty can be made as to its accuracy or completeness. Before acting on any of the above, please seek individual financial advice based on your personal circumstances. However, neither the author nor Richardson GMP Limited makes any representation or warranty, expressed or implied, in respect thereof, or takes any responsibility for any errors or omissions which may be contained herein or accepts any liability whatsoever for any loss arising from any use or reliance on this report or its contents. Richardson GMP Limited is a member of Canadian Investor Protection Fund. Richardson is a trade-mark of James Richardson & Sons, Limited. GMP is a registered trade-mark of GMP Securities L.P. Both used under license by Richardson GMP Limited.

Certain statements in this document are forward-looking. Forward-looking statements (“FLS”) are statements that are predictive in nature, depend on or refer to future events or conditions, or that include words such as “may,” “will,” “should,” “could,” “expect,” “anticipate,” intend,” “plan,” “believe,” “estimate” or other similar expressions. Statements that look forward in time or include anything other than historical information are subject to risks and uncertainties, and actual results, actions or events could differ materially from those set forth in the FLS. FLS are not guarantees of future performance and are by their nature based on numerous assumptions. Although the FLS contained in this document are based upon what Purpose Investments [and the portfolio manager] believe to be reasonable assumptions, Purpose Investments [and the portfolio manager] cannot assure that actual results will be consistent with these FLS. The reader is cautioned to consider the FLS carefully and not to place undue reliance on the FLS. Unless required by applicable law, it is not undertaken, and specifically disclaimed, that there is any intention or obligation to update or revise FLS, whether as a result of new information, future events or otherwise.

Return to Blog