In recent quarters, the long-term shift from active to passive investment management has accelerated dramatically. By November of 2016 (the latest available data), the active/passive spread in flows (net outflows from active vehicles and net inflows into passive-12 month annualized) had reached nearly $500 billion. This compared to an average flow spread from 2006 to 2015 of just $163 billion.
Fueling the recent momentum in passive investing is the difficulty for active managers to keep pace with continued upward momentum in market indexes. Widespread market gains from the Trump bump seem only to be exacerbating the situation for active managers. Also catalyzing the shift to passive are the new DOL regulations which encourage use of lower cost vehicles with more transparent investment processes. Recent data suggests an acceleration in use of passive by IBDs and wirehouses, channels that have historically lagged others in embracing passive options.
If the current flow patterns continue it may not be long before passive investing overtakes active in U.S. equity markets as the preferred approach among fund and ETF investors. The chart below shows the historic growth of passive assets as a percentage of all U.S. equity mutual fund and ETF assets. Now at 44%, if the current pace continues, passive assets could exceed active by the end of 2017.
Source: Morningstar and Standard and Poors
The active to passive shift has significant potential implications for the asset and wealth management industries. These include:
1.Increased concentration of assets in a relatively few asset managers, e.g. Vanguard, Blackrock
2.Mounting outflows from large and mid cap actively managed equity funds and fund sponsors, e.g. American Funds, Fidelity
3.Growing adoption of model based and passive core/active satellite management among RIA/wealth managers and independent and wirehouse brokers
4.Increase integration of robo-advisory functionality using passive products both as a standalone delivery system and within advisory models
5.Mounting pressure on management fees of both active and passive vehicles
6.Increased expectations on non-core actively managed funds to add alpha
7.Growing pressure to clearly communicate a firm’s active versus passive philosophy and approach