Low-cost, active ETFs prove to be a bright spot

J.P. Morgan Asset Management, home to the industry's two biggest actively managed exchange-traded funds, achieved something unique last year among the 10 biggest managers sponsoring ETFs as ranked by Pensions & Investments by total worldwide assets: Asset growth.

JPMAM's ETF assets totaled $97.5 billion as of Dec. 31, 2022, up nearly 25% from just over $78 billion at the end of 2021. That growth came despite a tough year for both the equity and fixed-income markets. In 2022, the S&P 500 index returned -18.1% and the Bloomberg U.S. Aggregate Bond index lost 13%.

BlackRock Inc., the biggest ETF manager, had $2.91 trillion in ETF assets as of Dec. 31, 2022, down about 11% from the end of 2021.

Despite JPMAM's success, its growth rate paled in comparison to that of some managers farther down P&I's list of the top 25 managers sponsoring exchange-traded funds/notes. Dimensional Fund Advisors, No. 11 on P&I's list, saw its total ETF assets grow by nearly 600% to $72.2 billion last year, while No. 17 American Century Investments – whose Avantis Investors brand ETFs account for the lion's share of its total ETF assets –saw a 93% increase to $19.1 billion.

The asset growth experienced by those three managers last year "showed there is a huge unmet demand for low-cost active," said Eric Balchunas, Philadelphia-based Bloomberg Intelligence senior ETF analyst, adding that those three managers have something in common: They offer active ETFs at expense ratios below 40 basis points.

"Once you get below 40, good things happen," the analyst said, adding that there's no mystery as to why active ETFs finally took off and that their trajectory is reminiscent of what occurred with both smart beta and environmental, social and governance ETFs. "It wasn't until they got low cost that they got successful."

Indeed, active ETFs were a bright spot for ETF managers last year, P&I's data showed, with seven of the top-10 managers sponsoring active ETFs showing asset growth.

Dimensional ranked as the biggest, with its $72.2 billion of assets at the end of last year, JPMAM ranked second with $63.5 billion, which marked an increase of nearly 61% from $39.5 billion at the end of 2021.

The active ETFs of JPMAM, Dimensional and American Century have attracted a total of $28 billion of net inflows this year through May 31, which represents 19% of the $145 billion in total net cash that went into ETFs overall this year, including both active and passive ETFs, Mr. Balchunas said.

Jack Bogle, Vanguard Group Inc.'s late founder, "has certainly won the argument (that) costs matter," said Mr. Balchunas, author of a book called "The Bogle Effect." The analyst noted that Dimensional already has one active ETF that's below 10 basis points. The $6.4 billion Dimensional U.S. Equity ETF has a net expense ratio of 9 basis points, Dimensional's website shows.

"I think ultimately one day we're going to see a lot of the money in the 20 (basis points)-to-under bucket," Mr. Balchunas said. "So, this is just the beginning of a painful but necessary process of active (ETFs) getting with the program in terms of appealing to more cost-conscious advisers."

Global ETF industry assets overall totaled $9.26 trillion at the end of 2022, down 9.8% from $10.26 trillion at the end of 2021, according to London-based research and consultancy firm ETFGI LLP. By contrast, assets of actively managed ETFs listed globally increased by 10.6% during the same period, rising to $488 billion the end of 2022 from $441 billion at the end of 2021. In 2017, active ETF assets listed globally totaled just $84 billion, according to ETFGI data.

JPMAM is home to the industry's two largest active ETFs, the $26 billion JPMorgan Equity Premium Income ETF (JEPI) and the $25 billion JPMorgan Ultra-Short Income ETF (JPST), according to Jed Laskowitz, New York-based CIO and global head of asset management solutions at J.P. Morgan Asset Management. JEPI has a net expense ratio of 35 basis points, while JPST's net expense ratio is 18 basis points, fund fact sheets show.

"We are experiencing increased demand for active ETFs for a variety of reasons — daily transparency, tax efficiency, ease of ETF trading, and our ability to achieve our risk and return objectives," Mr. Laskowitz said in written comments provided to P&I. "Financial (advisers) also prefer investing in ETFs that are managed by the same investment teams that manage active separate accounts and mutual funds on behalf of their clients."

Trust and familiarity with the underlying investment teams are key factors for advisers when it comes to choosing an active ETF, Mr. Laskowitz said.

Founded in 1981, Austin, Texas-based Dimensional launched its first two ETFs in November 2020, slightly more than a year after the Securities and Exchange Commission's September 2019 adoption of the "ETF Rule." The rule streamlined regulations governing most ETFs and allows for greater flexibility in their day-to-day management, Dimensional said in a November 2020 article posted to its website.

Dimensional had been hearing from investors — including both financial advisers and institutions — that they wanted access to its systematic approach in an ETF wrapper, according to Anthony Caruso, Charlotte, N.C.-based co-head of product specialists and a vice president at Dimensional. The rule allowed Dimensional to implement ETFs with the same flexibility it has had with mutual funds for more than 40 years, Mr. Caruso said in an interview.

Dimensional currently offers 30 ETFs, he said, all of which are active transparent ETFs. Those ETFs include seven tax-managed mutual fund-to-ETF conversions. Six of the conversions were completed in 2021 and the seventh was completed in 2022, he said.

"We are very fortunate to be the largest active ETF issuer," Mr. Caruso said.

When it comes to Dimensional's success in growing assets last year, he acknowledged that lower fees likely played a role.

"Having lower fees obviously is beneficial to every investor," Mr. Caruso said.

"When you look across our lineup, we're very competitive in fees. In many cases, we price our strategies more closely to passive than we do to active," he added.

Los Angeles-based Eduardo Repetto, chief investment officer of Avantis Investors, an investment unit of Kansas City, Mo.-based American Century, said all of Avantis' ETFs have expense ratios below 40 basis points. Avantis ETF expense ratios range from 15 to 36 basis points, he said.

"We're always trying to provide an expense ratio that in our view is a good deal for the end client," Mr. Repetto said. "If it's a good deal for the end client and we get a lot of got of assets, a lot of volume, that becomes a good deal for us."

Prior to Avantis Investors' establishment in 2019, Mr. Repetto served as co-chief executive officer, co-chief investment officer and director at Dimensional until 2017, according to Avantis' website.

Avantis currently has 18 investment strategies available as transparent active ETFs. Nine of those strategies are also available as mutual funds offered at the same expense ratios as the ETFs. Avantis also manages separate accounts, and in total manages about $24 billion, a spokeswoman said. Avantis' lineup includes both equity and fixed-income ETFs.

"We started three-and-a-half years ago with zero, no money," Mr. Repetto said. "And today we are around $24 billion."