This article originally appeared in the March edition of Futures Magazine.
In 2011, the exchange-traded fund (ETF) industry continued a recovery that brought it out of its first significant contraction since it was created in 1993. However, the surge was muted strongly mid-year as the European debt crisis, and then the MF Global debacle, rippled through the investment industry. The result was that ETF assets ended well off their $1.113 trillion peak set in April, finishing November 2011 at $1.045 trillion — but still about $117.52 billion above November 2010’s total.
According to data from the Investment Company Institute (ICI), a national association that represents U.S. investment companies, that growth was distributed throughout the domestic industry, with broad-based and sector equity funds, international funds and bond funds all increasing in number over 2010’s figures (see “ETF breakdown”). However, international funds did lose assets slightly over the course of the year.
In terms of dollars invested, domestic equity ETFs attracted a large share of the additional billions that flowed into ETFs in 2011, increasing by $87.59 billion from November 2010 to November 2011. Bond ETF assets rose by $36.61 billion to $177.58 billion between November 2010 and November 2011. International ETF funds dipped slightly year-over-year, dropping $6.75 billion to $252.28 billion between November 2010 and November 2011. At the end of November 2011, hybrid funds held a relatively modest $376 million (see “Steady growth”).
In terms of volume reported by the exchanges, activity rose in ETFs during 2011. The average daily volume of the ETFs included in Futures’ 2012 ETF Guide was about 3.76 million units a day in 2011, roughly half a million units a day more than the year before. In 2010, the average daily volume across all ETFs in the Guide was 3.27 million units a day.
Futures’ ETF Guide includes all ETFs that traded more than 300,000 units a day, on average, as the previous year came to a close. Based on data from 2011, 366 ETFs made the cut (out of 1,314 available at the end of the year). In 2010, 342 ETFs were included.
The ETF terrain continued to evolve in 2011, reflecting not only changes in investor goals but significant shocks and milestones in the financial landscape.
The most active ETF in 2011 (as it was in 2008-10) was the Standard & Poor’s Depository Receipts (SPY), which tracks the S&P 500. The ETF soared in volume for 2011, trading an average of 234 million units a day at year end vs. 158.98 million units 12 months prior. The second most traded ETF continued to be the Financial Select Sector SPDR (XLF) with 106 million units a day, which traded about 79 million units daily in 2010. The third most popular was the iShares Russell 2000 Index (IWM), which traded about 69 million units a day.
Last year’s third most-active ETF in Futures’ ETF Guide, the PowerShares QQQ (QQQQ), dropped to fifth this year with 63 million units a day, still an increase over its 2010 average of about 62 million units.
The top ETF in international and emerging markets remained the iShares MSCI Emerging Markets Index (EEM). It also rose in volume, trading roughly 68 million units a day as 2011 came to a close vs. 57 million units a day for the same period in 2010; however, that was still below its average of 71 million in 2009. The iShares continued to dominate the international sector, with eight of the top 10 ETFs. The only competing products to breach iShares’ hold on this sector were the Vanguard MSCI Emerging Markets (VWO) with 24 million units a day and the Market Vectors Russia (RSX) with 5 million units.
As the stock market steadied in 2011, particularly after August, interest in bear market ETFs continued to wane. The most popular bear market ETF was the ProShares UltraShort S&P 500 (SDS), which traded 35 million units a day. The Direxion Daily Small Cap Bear 3X Shares (TZA) was second, with about 30 million units per day. The most popular bear market ETF from last year, the Direxion Daily Financial Bear 3X Shares (FAZ), was third with 23 million units a day, well off its peak two years ago of 65 million. The popularity of this category remained steady with 43 bear market ETFs making the cut for the
ETF Guide vs. 44 last year.
Commodity ETFs were relatively stable in terms of investor interest in 2011 with metals- and energy-based products dominating the rankings. The most popular commodity-based ETF continued to be the iShares Silver Trust (SLV) with 20 million units a day, yet still off its 2010 average of 29 million units. Second was the SPDR Gold Shares (GLD) with 13 million units a day. The highest energy-based ETF was United States Oil (USO) at 12 million units.
Gold and energy didn’t have an exclusive hold on the highest rankings, however. The Materials Select Sector (XLB), which includes chemical, packaging and construction companies in addition to some mining firms, came in third with 13 million units a day. The PowerShares DB Commodity Index Tracking (DBC) also broke the metals and energy hold on the top 10. DBC logged about 2 million trades a day.
Despite the extreme volatility that rocked the forex markets, particularly euro-based crosses, the ETF markets showed little concurrent growth in 2011. This perhaps was a reflection of investor and trader attitudes that ETFs provide a poor substitute for cash forex.
The top currency ETF in 2011 was the PowerShares DB U.S. Dollar Index Bullish (UUP), trading 5.3 million units a day, on average. This was just a hair over its 2010 average for the same period of 5.1 million units. The ProShares UltraShort Euro (EUO) was the second most popular currency ETF with 4.4 million units a day. The third most-active ETF was another euro-based product, the CurrencyShares Euro Trust, with 1.9 million units.
Keeping its spot in Futures’ ETF Guide is one of the few actively managed ETFs, the WisdomTree Dreyfus Chinese Yuan (CYB). Launched in May 2008, the CYB was one of the first actively managed ETFs. It traded about 257,000 units a day. Another actively managed ETF among currency-based products is the WisdomTree Dreyfus Emerging Currency (CEW), with 155,000 units.
The PIMCO Enhanced Short Maturity Strategy (MINT), with 194,000 units a day, and the WisdomTree Emerging Markets Local Debt (ELD), with 218,000 units, are two other actively managed ETFs that made the cut.
2012: New dawn?
The specter of repressive regulation has been hanging over the financial industry since lawmakers set their sights on reining in market risk — and, by extension, financial freedoms — following the financial crisis of 2008 and, more recently, the MF Global collapse.
Previously, provisions of the Dodd-Frank financial reform legislation that instruct the Commodity Futures Trading Commission (CFTC) to put in place energy and metals market position limits were considered the most potentially restrictive new rules affecting ETFs.
Now, however, expectations have shifted. MF Global’s collapse has resulted in increased scrutiny of the exchange-traded futures industry. Some argue that ETFs could benefit.
“I already have heard from several retail investors who are shifting to ETFs as an alternative to commodity futures,” says John L. Roe, partner of BTR Trading Group, a futures brokerage firm in Chicago. “Commodity ETFs always have offered the advantage of simplifying access to commodities as an asset class for individual investors, and the MF Global collapse will add a perception that ETFs may be safer than trading directly in futures contracts.”
The industry itself also will have greater incentive to shift business from futures to physical markets, he says.
“Congress will demand a policy response to MF Global’s bankruptcy that will focus on shoring up protections for customers of FCMs,” he says.
Roe contends that the net effect of these changes will be increased costs for trading exchange-traded futures and, by comparison, physical markets will be more attractive for ETF managers.
“The migration began to escape position limits, and the regulatory response to MF Global will only speed that along,” he says. “The market will see more ETFs deliberately structured to avoid the regulations of the CFTC.”
Since they were introduced, commodity ETFs always have been considered a simple way for individuals to gain exposure to commodities. That impression only strengthens within the new operational landscape, Roe says.
“If the segregated fund protection is a paper tiger, small investors won’t see a benefit to trading in markets they perceive as risky and under-regulated,” he says.
That, of course, makes the future quite bright for the alternatives.