Date published: 08 January 2020
Robin Wigglesworth in Oslo and Alex Janiaud in London
Assets managed by global index funds have smashed through the $10tn level, buoyed by rising markets and an investor exodus from pricier, actively managed funds that often struggle to beat their benchmarks.
Cheaper, passive investment funds, which merely try to match an underlying index, were invented in the 1970s but took a long time in gaining traction, as asset managers were largely sceptical that anyone would accept the market’s average return.
However, index-tracking investment vehicles — whether in a more traditional mutual fund, or one traded on an exchange — eventually took off. Since the financial crisis they have exploded in popularity across stocks, bonds and commodities, radically reshaping the asset-management industry.
A decade ago there was about $2.3tn in index funds, according to Morningstar data compiled by the Investment Company Institute, a trade association, for the FT. The market recovery of 2019, and the shift into passive investing, lifted the global industry to $11.4tn at the end of November.
“It’s a big number,” said Ben Johnson, head of ETF research at Morningstar. “This has been a decade marked by the ascendancy of indexing.”
Even this figure may understate the extent to which index investing has caught on. Many big pension funds, endowments and sovereign wealth funds have set up internal strategies that mimic markets without having to pay an asset manager. Data on this is sparse, but BlackRock estimated in 2017 that such activity could amount to an additional $6.8tn.
Index funds have gained the most ground in equities, and above all in the US, where it has proven particularly difficult for traditional, active stockpickers to consistently beat their benchmarks. The past year has been no exception.
Just 28 per cent of US equity fund managers investing in large companies managed to beat the US stock market last year, and over the past decade a mere 11 per cent managed to do so, according to Bank of America.
“The past 10-year period posed unique challenges for active funds,” Savita Subramanian, head of US equity strategy at BofA, said in a report this week. The toughest part was contending with “a wave of redemptions”, she wrote, as investors demanded their money back.
Indeed, about $1tn has left active equity funds over the past decade, according to Morgan Stanley, which estimates that only the top decile of fund managers, by performance, has been able to retain assets during that period. In the 1990s the top six deciles still enjoyed inflows, and in the 2000s the top three deciles did so.
The trend towards index funds is accelerating in bonds too, a market that is generally more opaque and less liquid than stocks, and therefore more amenable to active investing. Just over the past year, fixed income index funds attracted more than $200bn of inflows, according to EPFR.
Index funds have been dogged by criticism from traditional investment groups, but their growth is now so dramatic that some analysts are warning that it could damage the efficiency of financial markets by impeding price discovery, or imperilling standards of corporate governance.
“There are the external benefits of active management that are in danger of being eroded,” said Simon Hallett, co-chief investment officer at Harding Loevner, and a member of the Active Managers Council, a body set up to defend the investing approach.
“One of the benefits of active managers is that we care more than passive managers about stewardship, about good governance of companies.”
Word count: 569
Link To FT.com: https://www.ft.com/content/a7e20d96-318c-11ea-9703-eea0cae3f0de
Copyright The Financial Times Limited 2020
© 2020 The Financial Times Ltd. All rights reserved. Please do not copy and paste FT articles and redistribute by email or post to the web.