Over the last few years, the allocation that large institutional investors have been willing to commit to alternatives has appeared limitless. And the larger the investor, the more likely they were to utilize alts.
With few exceptions, however, alternatives offerings in the $8.3 trillion U.S. exchange-traded product market have failed to attract significant institutional interest. Yet some recent market and product trends have helped to shine a light on the opportunities and advantages of ETFs beyond equity and fixed-income exposures.
Through January, broadly defined alternative ETFs managed just $6.7 billion; currency products sat at $31.9 billion — due mostly to the introduction of spot bitcoin ETFs in January; and commodity exchange-traded products held $126.6 billion, primarily invested in gold and other precious metals funds, according to FactSet Research Systems.
According to the 2023 NACUBO-TIAA Study of Endowments, marketable alternatives made up nearly 18% of assets, on average, for U.S. college and university endowments larger than $1 billion. This category includes hedge funds, absolute return, market-neutral, long-short, event-driven and derivatives-based strategies. Even smaller programs down to $25 million held at least 5.7% of the portfolio in alternatives. State and municipal retirement systems with promised benefits greater than $1 billion held 5% in hedge fund strategies and 6.6% in commodities and miscellaneous alternatives, according to an analysis by Equable Institute. Large institutional alternatives allocations, however, have generally been devoid of ETFs.
Yet, in an October regulatory filing, the roughly $48 billion General Electric Pension Trust revealed an over $100 million investment in the Simplify Market Neutral Equity Long/Short ETF, which was launched in June 2023. The investment "is a shot across the bow of hedge funds all across the U.S.," Bloomberg Intelligence Senior ETF Analyst Eric Balchunas said at a conference in December.
"There's a growing population of hedge-fund like strategies in the ETF wrapper," said Aaron Filbeck, managing director and head of UniFi by CAIA at the Chartered Alternative Investment Analyst Association. These include long/short equity, merger arbitrage and managed futures. "But to get to the liquidity required for an ETF product, what is being stripped out?" Filbeck asked. "You are either sacrificing leverage or an illiquidity premium."
It's unlikely that ETFs will extend into venture capital, private equity or private credit, Filbeck said. Valuation, terms and liquidity on such assets do not make them amenable to the exchange-traded fund vehicle.