HH ETF Product Development: Past, Present And Future

On October 1st, 1908 Henry Ford introduced the Model T to the world. The power of the Model T was that it democratized the automobile so the average working-class person could afford a car for the first time. The design was simple and efficient. For much of its early production, the Model T was only produced in black. Future advances came from offering differentiation to meet the needs of different consumers. Eventually, competition entered the market, segmentation went wild, and now we have an automobile industry that delivers a wide variety of vehicle solutions.

Enjoying your Model-T? Or Would you like some alternative options?

Competition in the ETF industry has democratized investing in a similar way. Early production was focused on being simple and efficient. Similar to the black Model T, early ETFs were mainly produced in one style: Market Cap Weighted. As ETFs have become a more widely used tool for investors, more differentiated and advanced strategies have been brought to market in response to a combination of investor demand and ETF issuer innovation. And the 80/20 rule is alive and well in the ETF industry as well–80% of the market is controlled by iShares, Vanguard, and State Street — but 20% is controlled by boutiques that deliver value propositions that target a specific niche.

In a previous post, we looked at the history of the product development of ETFs from a high level; there have been two definitive waves: Market cap weighted ETFs and smart beta ETFs. In this post, we’ll focus on how we moved beyond the Model T of the ETF industry.  I’ve broken the ETF universe into smaller categories to answer the following:

  1. Which product types have resonated with investor dollars to cause the growth of ETF product development; also, when did this occur?
  2. Ascertain the “why” behind the growth of ETF product development.
  3. What this tells about the future growth of ETF Product Development.

To simplify the process of analyzing the ETF landscape, I have chosen to focus only on large-cap equities. We’ll look at the top 100 equity ETFs by assets under management (AUM) starting with 12/31/2005. At that time, ETFs were still almost exclusively market cap weighted, so it’s a good period to start with to show the shifts over the following decade-plus window.

We’ll use the end dates of every three-year period,  starting with 12/31/2005, then 12/31/2008, 12/31/2011, 12/31/2014, and then year-to-date, 7/31/2017.  The idea is to pick up on how the trends in ETFs have shifted and see what that tells us about the future.

Rules for categorizing ETFs:

ETFs are categorized as follows:

  1. Market Cap Weighted
  2. Leveraged and Inverse
  3. Multifactor
  4. Low volatility
  5. Value
  6. Growth
  7. Quality
  8. Equal-weight
  9. Dividend
  10. Currency-Hedged
  11. Momentum

The images below represent two items:

  1. The Pie Chart (on the left) represents the breakdown of the percentage (%) of AUM by product type.
  2. The Bar Chart (on the right) represents the breakdown of the number (N) of ETFs by product type.

Onward to the analysis!

2005: Beta to the World

(Click on image to enlarge)

AUM within Top 100 Equity ETFs by Product Category – 2005 (left) and Number of Product Category within Top 100 Equity ETFs – 2005 (right)

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