Exchange-traded funds in the United States reached a record $1 trillion in assets on December 16, 2010. The industry, which had less than $66 billion in assets in the year 2000, put up growth that easily outpaced any other investment vehicle.
Growth from all types of exchange-traded products comes mostly from ETFs which had assets of $887.2 billion in 894 funds from 28 different sponsors and providers. That is up from 2009 when there were only 772 ETFs and assets sat at $705.5 billion from 29 providers.
Exchange-traded products (mostly exchange-traded notes, or ETNs) totaled 185 as of December 16, 2010 with assets of $115.5 billion. Only twenty different companies issue ETNs due to their counter-party risk.
More Room for Growth
The industry still has plenty of room for growth. Though 171 new exchange-traded funds were launched in 2010, there are 828 ETFs waiting for regulatory approval from the SEC or for their already planned launch date. Amazingly, only 49 ETFs were closed down in 2010, virtually proving that “if you make it, they will come.”
Compared to 2009, 2010 proved to be the year of equities, with investors soaking up emerging markets ETF/ETN/ETPs. In 2009, investors purchased mostly fixed income and commodity funds, showing that at least in some respects, an appetite for risk has re-emerged.
Exchange-traded fund issuers are becoming increasingly niche with their funds. At the start of the industry, exchange-traded fund sponsors issued primarily index trackers, hoping to bring investors into the market inexpensively. However, as the industry grew and companies were stepping on eachother’s toes in domestic stock and bond funds, a few companies started pushing the envelope with emerging market indices, then single country ETFs, and now single industry within a single country ETFs.
Relying on Education for Growth
By reaching out to typical retirement investors, exchange-traded funds are grabbing market share from mutual funds by advertising lower expense ratios.
Also, agreements with several brokerage firms have allowed ETF investors to trade popular funds for free. Currently, Fidelity offers free trades on 26 iShares ETFs while Vanguard has free ETFs of its own. Other investors are accessing their brokerage window, and buying and selling ETFs through a 401k.
Some Criticism for ETFs
The explosion in the number of exchange-traded funds as well as a new trend toward more complex funds has fueled the mouths of critics. Exchange-traded funds were first called out in a public issue from FINRA about the safety of double and triple leverage funds as well as inverse ETFs. Others have noted that ETFs tend to make hot money more damaging to the developing world as American investors pile cash into extremely niche emerging market ETFs.
Others though, see opportunity with ETFs. For one, there aren’t many exchange-traded funds that cost more than 1% per year, and many trade for less than 50 basis points. This has allowed investors to save plenty of cash in the long haul while pinpointing investments of interest.
Likewise, exchange-traded funds and notes provide exceptional tax benefits. Gold, for example, is taxed like a collectable, which means it is taxed at normal income rates, regardless of how long it is owned. A gold ETN however, is a note, not gold, so earnings are taxed just like any other capital gain. (Late edit: Starting 2011, your ETFs/ETNs will require cost basis reporting.)
One more tax advantage is their classification. Since ETFs/ETNs rarely buy or sell stocks within a portfolio, there are no real capital gains until the ETF is finally sold. A Bloomberg study in 2002 found that index mutual funds pass on anywhere from 30-80 times more capital gains as a percentage of assets than do index ETFs.