Over the coming years investors in ETFs (exchange-traded funds) can expect further flexibility and choice as actively managed products move into the mainstream and a broader range of themes and investment areas are captured by the industry.

In this article we will look at some of the emerging developments in the ETF space and highlight four products tailored to different investment objectives and asset classes.

Rob Oliver, head of Europe at ETF provider Global X ETFs, sees potential opportunities around themes like cloud computing, data centre and digital infrastructure in the future as the adoption of AI grows. While there are existing products which track these themes, often there are only a handful so an increase in their breadth and depth would be meaningful and could also help drive down charges which tend to be higher than for more vanilla products tracking mainstream indices like the FTSE 100.

AI could itself be employed in the construction of products to identify and react to market events. Greater responsiveness could be significant given a key risk with thematic ETFs is that by the time they have been launched a lot of the smart money has already been made.

With ETFs’ assets under management (AUM) set to reach $20 trillion by 2026, according to global accountancy firm PwC, the number of ETFs being traded has already come a long way since the first product launched in the US in the 1990s.

At the end of August 2023, there were 9,904 ETFs globally, an increase from 729 in 2006 and 6,952 in 2019, according to industry research firm ETFGI.

Strong competition between providers is expected keep ETF fees low. New technology is also expected to lead to increased market liquidity and prompt a reduction in management fees and commissions which will play a role in keeping ETFs fees low for investors in the future, says asset manager JP Morgan.

WHAT IS AN ETF?

ETFs or ‘exchange-traded funds’ are exactly as their name implies, funds that trade on exchanges, generally tracking a specific index. ETF costs are typically lower than funds and investment trusts – although pressure from the emergence of ETFs has also dragged down costs for traditional funds and trusts.

Largely ETFs are cheaper because they are not actively managed by a fund manager which means lower fees. Standard fees for ETFs can range from 0.35% to 0.5%, with annual fees as low as 0.05%.

They can be bought and sold like ordinary shares and can be held within a SIPP, ISA or dealing account.

ACCESS TO POPULAR THEMES

Pierre Debru, head of quantitative research & multi asset solutions at ETF provider WisdomTree, tells Shares: ‘The thematic ETFs available in Europe cover 40 themes according to WisdomTree’s ongoing monitoring. The themes are grouped into four clusters: demographic & social shifts, geopolitical shifts, environmental pressures, and technological shifts.

‘The majority of AUM was in environmental pressures (38%) and technological shifts (55%). The top five themes, all from the last two clusters, are cybersecurity ($5.12 billion), sustainable energy production ($4.93 billion), artificial intelligence & big data ($4.91 billion), robotics & automation ($4.84 billion), and sustainable resource management ($4 billion).’

Some of the broadening of choice in terms of thematic ETFs reflects investor appetite. Global asset manager Franklin Templeton has recently launched a new MSCI World Catholic Principles UCITS ETF (FIDE) for European investors due to ‘client interest’.

Caroline Baron, head of ETF distribution, EMEA Franklin Templeton, says: ‘With this new fund we wanted to offer investors an ESG-focused global equity strategy within an ETF structure that incorporates specific Catholic values.’

Two years ago, Franklin launched the Franklin Catholic Principles Emerging Markets Sovereign Debt UCITS ETF (CPRI).

INVESTING IN ESG FOR THE LONG TERM

Over the next decade or so, global professional services firm EY notes the theme of ESG (environmental, social and governance) ESG will ‘come of age’ as more investors take an interest in these issues.

Although inflows to ESG ETFs dropped globally in 2023, after coming heavily into fashion during the pandemic, EY believes that ESG-focused ETFs will remain a long-term investment theme, ‘especially in Europe, which leads the global market and accounted for a quarter of all ESG ETF flows in 2023’.

At the end of 2023, $345 billion had been invested into European ESG ETFs. ETF provider WisdomTree has recently launched its first sustainable global equity ETF – WisdomTree Global Sustainable Equity UCITS ETF (WSDG) in collaboration with Irish Life Investment Managers.

This new ETF combines popular themes like sustainability as well as catering for investors looking to invest around the world. Alexis Marinof, head of Europe at WisdomTree, said: ‘The new article nine ETF provides a differentiated approach to global developed market equities by integrating 11 of the 17 United Nations Sustainable Development Goals (SDGs) in the investment process.’

The Sustainable Development Goals framework adopted by the WisdomTree Global Sustainable Equity ETF classifies 11 of the 17 UN SDGs into 4 pillars: climate action: affordable and clean energy, climate action, circular economy: responsible consumption and production, healthy ecosystems: clean water and sanitation, life below water, life on land social equity: zero hunger, good health and well-being, quality education, reduced inequalities and sustainable cities and communities.

REGULATORY DEVELOPMENTS

Under the PRIPS (packaged retail investment and insurance products) regulation, investors cannot trade US registered ETFS in Europe because they do not contain a KID (key information document), so fund groups would need to launch funds specifically for the European market.

So, will UK and European investors ever be able to buy US ETFs and benefit from the much broader choice of available products?

Earlier this year the Financial Times reported that the FCA (Financial Conduct Authority) consulted with asset managers on plans for its post-Brexit OFR (overseas funds regime) which will allow fund managers to apply and sell non-UK funds to UK investors.

US financial services giant Charles Schwab said it was ‘closely watching’ the UK’s regulatory landscape.

Global X’s Rob Oliver says he doesn’t expect to see a trend of asset managers registering US ETFs in Europe, even if there is a change of regulation, as it is easier for a US ETF provider to have a presence in Europe through European vehicles.

Even if the blocks on US-domiciled ETFs are cleared in the future there are several other pitfalls including: foreign exchange costs, extra taxes, additional regulations and legal issues.

ACTIVELY MANAGED ETFS

Traditionally exchange-traded funds have just tracked the performance of an index but recent innovation has seen actively managed vehicles launched. The US has led the way on actively managed ETFs. US data firm Morningstar found that of the 543 new ETFs launched last year, approximately 75% of them were actively managed.

Caroline Baron, head of ETF distribution, EMEA, Franklin Templeton tells Shares: ‘In the US there has been a dynamic uptake in active ETFs among investors. In Europe, the active ETF market is more nascent. There are only 90 active ETFs available to European investors – about 2% of the market.

‘These active ETFs are available holistically through an ETF wrapper. Franklin Templeton is one of the top ETF providers – providing fixed income, green bond, and euro short maturity ETFs.

‘Overall [we’ve found] the uptake in [active] ETFs has been slow as investors are need to [build on their] knowledge base about what they are buying. The active ETFs are an area to watch [in the future].’

There has been nothing necessarily stopping providers from offering active ETFs since the inception of these products more than two decades ago but one big obstacle was removed in the US with a regulatory change in 2019.

Fund managers often like to closely guard a full list of their holdings for fear a rival or individual investor might simply piggy-back on their success by copying their approach. In other words, they do not want to give away the secret ingredients behind their success.

This is at odds with ETFs’ mandated transparency, where they must disclose all their holdings on daily basis. In 2019 the US flexed the rules to allow semi-transparency, with the underlying holdings obscured by proxy holdings. There is currently no such flexibility in Europe.

BEST ETF FOR GLOBAL EXPOSURE

Amundi Prime Global (PRIW) £27.66

The Amundi Prime Global ETF (PRIW) tracks the performance of the Solactive Developed Markets Large- and Mid-Cap Dollar Index but is priced in sterling and has a competitive 0.05% annual fee.

The fund, which is four-star-rated by Morningstar, is 70% weighted to US equities with Europe, the UK and Japan making up the balance, and has returned roughly 12% per year over five years, 10% over three years and 11% year-to-date.

Unsurprisingly, the largest sector weighting is in technology, which makes up 26% of the portfolio, with the top three holdings Microsoft (MSFT:NASDAQ), Apple (AAPL:NASDAQ) and Nvidia (NVDA:NASDAQ) accounting for 14% of the fund.

Amazon.com (AMZN:NASDAQ), Alphabet (GOOG:NASADAQ) and Meta Platforms (META:NASDAQ) are also in the top 10 holdings, along with Broadcom (AVGO:NASDAQ), Eli Lilly (LLY:NYSE) and JPMorgan Chase (JPM:NYSE). [IC]

BEST ETF FOR BOND EXPOSURE

iShares Core Global Aggregate Bond (AGBP) 452p

The tracks the Bloomberg Global Aggregate Bond index which is comprised of over 15,000 investment grade bonds issued in emerging and developed markets worldwide.

The index is broad-based and used by fund managers as a benchmark to measure relative performance. The ETF has a total expense ratio of 0.1% a year, making it one of the cheapest ways to track global bonds across all maturities.

The manager replicates the performance of the target index by sampling, which involves buying a selection of the most relevant index constituents. Around a fifth of the fund is invested in the US, while Japan is the second largest region comprising around 10% of the fund’s assets.

The fund has an average weighted maturity of 8.4 years which represents the average length of time until the maturity of the bonds in the portfolio. The yield to maturity is 4%. Ongoing charges are a modest 0.1% [MG]

BEST ETF FOR INCOME

SPDR S&P Global Dividend Aristocrats (GBDV) £24.50

A great low-cost way to tap into the payouts from high-yielding shares around the world is S&P Global Dividend Aristocrats (GBDV), which has delivered solid 10-year annualised total returns of 6.1%.

Diversified across 99 holdings, the ETF replicates the S&P Global Dividend Aristocrats index, which tracks high dividend yielding equities globally, by buying all the index constituents.

The index is designed to measure the performance of high-dividend-yielding companies that have increased or maintained dividends for at least 10 successive years and also boast positive cash flow from operations and a positive (ROE) return on equity.

Dividends from the £802 million ETF with an attractive 4.2% dividend yield are sourced from dependably cash-generative sectors including utilities, financials, real estate and telecommunications and paid out to investors quarterly.

Top holdings range from chemicals concerns Solvay (SOLB:EBR) and LyondellBasell Industries (LYB:NYSE) to US telco conglomerate Verizon Communications (VZ:NYSE) and Getty Realty (GTY:NYSE), a REIT (real estate investment trust) specialising in convenience and automotive retail property. The ongoing charge is 0.45%. [JC]

BEST ETF FOR THEMATIC EXPOSURE

WisdomTree Artificial Intelligence (INTL) £50.67

If you were looking for an example of how narrow AI (artificial intelligence) performance is right now, the Wisdomtree Artificial Intelligence ETF (INTL) offers a perfect illustration. While leading stocks like Nvidia (NVDA:NASDAQ), Advanced Micro Devices (AMD:NASDAQ) and Microsoft (MSFT:NASDAQ) have rallied this year, it has put up total returns of less than 6%.

That Nvidia, up 205% over the past 12 months, represents just 2.5% of the portfolio is a major reason, but then thematic ETF investors are looking for a diversified approach to an investment trend, with capped risk.

On that basis, this is a good option on the ongoing emergence of AI. Chip stocks feature heavily in the portfolio, accounting for pretty much the entire top 10 stakes, and including picks and shovels companies like Micron Technology (MU:NASDAQ), TSMC (TSM:NYSE) and Teradyne (TER:NASDAQ), which makes tech testing equipment.

Five-year total returns performance (123%) has comfortably beaten global stock market returns of 70% (as measured by the MSCI World Index), and given AI’s direction of travel, we would expect that performance gap to widen. Pretty good value, we think, for a total expensive ratio of 0.4%. [SF]

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