Imagine the setting: Bill Clinton has been US President for a little over a week, jeans are worn baggy and Whitney Houston tops the charts with I Will Always Love You.
It’s 1993 and a giant inflatable spider lifts above the trading floor of the American Stock Exchange in downtown Manhattan, and a major shift in financial markets and fund management begins.
The stunt was intended to mark the debut of State Street Global Advisors’ S&P 500 Depository Receipt (SPDR) 30 years ago on January 29, 1993. It wasn’t the first exchange-traded fund — there was a Canadian one that launched on the Toronto Stock Exchange in 1990. But it was SPDR that sparked the development of the massive ETF industry and has been leading the way ever since.
The network of US-listed ETFs is now worth $6.5 trillion, according to the SSGA. That’s about two-thirds of the world total. And SSGA’s seed fund is still the largest at $355 billion. The activity of SPY – its ticker – is even more impressive: an average of $39 billion is traded daily, and towards the end of last year its volume was almost three times that of the mighty Apple. In other words, more than half of all components of the S&P 500 are each worth less than the SPY’s trading volume on a typical day. An SSGA survey found that 40 percent of investors say they have an ETF in their portfolio.
SPDR remained a financial minnow compared to the size of the mutual fund universe for years after inception. Mutual funds were then – and still are – the behemoth of the investment industry. But SPDR and ETFs offered something different. As early as 1993, the Boston Herald described the new product as “part stock, part mutual fund, part index product, part S&P 500.”
Because they are exchange traded, they allow investors to buy and sell shares during the trading day, while their competitors offered a single price after the close. The upstarts also charge a fraction of the fees charged by mutuals and incur less tax too.
It took some time for these tax benefits to attract the frequent traders to whom they are most useful — and for professional investors to realize that ETFs could work for them as trading and hedging tools, as well as cheap mother-and-son investment vehicles. Pop investors they were designed to be. But the industry has grown like crazy ever since.
One reason for this is the innovative nature of fund providers, who are launching a variety of ETFs that allow investors to gain exposure to a range of assets, including commodities and corporate bonds. There are even ETFs that are designed as short-term trading tools, providing additional leverage for positive and negative bets.
For those in the industry, the sky is the limit. At a 1993 anniversary event last week, Sue Thompson, SSGA sales director for SPDR exchange-traded funds in America, suggested that a private equity ETF might eventually be created. “Remember, about gold ETFs and high-yield bond ETFs, people thought you couldn’t,” she said.
The industry is enjoying another trend that confirms its success: more and more mutual funds are being converted into ETFs.
According to Morningstar, about 35 funds totaling $55 billion have made the switch over the past two years. The conversions follow a 2020 Securities and Exchange Commission rule change that reduced costs and eased the difficulties of moving.
California boutique Guinness Atkinson was the first in March 2021 and bigger names have followed, including funds offered by JPMorgan, Neuberger Berman and Franklin Templeton. Mutual fund titan Fidelity is currently transitioning six funds.
“It seems like I’m getting asked about the concept of conversion at least once a week every week now, compared to once a month not too long ago,” said Richard Kerr, partner and funds specialist at law firm K&L Gates.
Despite the success of ETFs and recent conversions, they still lag the US mutual fund universe. According to the industry’s Investment Company Institute, mutual funds were managing around $27 trillion in assets at the end of 2021. However, ETFs are growing faster.
Take equity. According to research by Bank of America, net inflows into them have offset outflows into their mutual fund peers every year since 2006. Inflows of more than $500 billion last year in the US were the second-best on record, although the S&P 500 suffered its worst year since 2008, falling 19 percent.
At last year’s relative growth rate, stock ETFs could overtake mutual funds by 2036, BofA believes. A strong acceleration in conversions could change that pace. The recent trend of switching mutual funds only reinforces how far newcomers have come.
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