Smart-Beta ETFs Could Give Active Managers A Run for Their Money | ETF Trends

Investors have quickly adopted alternative index-based or smart-beta exchange traded funds, largely at the expense of actively managed funds, and the trend could continue.

Mark Makepeace, chief executive of the FTSE Group, points out that traditional market capitalization-weighted passive investments make up 30% of money invested in major equities markets, leaving active managers with 70%, and a growing number of investors are taking an interest in alternative, factor-based index funds, reports Steve Johnson for the Financial Times.

“Half of that [70 per cent] over time will probably move to a combination of factor and multifactor-based [passive]approaches,” Makepeace warned in the FT article, arguing that the shift could lead to devastating consequences for active managers.

The ETF industry is currently enjoying a proliferation and growing popularity of smart-beta ETFs that track factor-based indices, which utilize a combination of actively managed styles to select component stocks instead of weighting holdings based on the traditional market-cap methodology. For instance, many factor-based ETFs select and weight companies based on revenues, book value, dividends, momentum and volatility, among others.

Makepeace points out that the growing popularity has made smart-beta indexing “one of the fastest-growing areas” for FTSE.

For instance, PowerShares Invesco offers a suite of FTSE RAFI Fundamental Index ETFs that utilize Research Affiliates factor or fundamental components, including sales, cash flow, dividends and book value.

The PowerShares FTSE RAFI US 1000 Portfolio (NYSEArca: PRF), one of the largest and oldest smart-beta ETFs, has $4.6 billion in assets under management and gained an average annualized 15.3% over the past five years. PRF will be celebrating its 10th anniversary on December 19 this year.

On Monday, the London Stock Exchange Group (LSEG) said it has combined its FTSE and Russell indexing business into one unit known as FTSE Russell. [London Stock Exchange Combines FTSE, Russell Brands]