ETF issuance, viewed over the past few years as innovation, is now seen as proliferation. There is a growing concern that ETFs are too many in number and too niche in nature.
When I hear these concerns, I ask myself, “relative to what?” My answer is always, “relative to mutual funds,” since ETFs are overwhelmingly similar to mutual funds. In that case, I thought it would help to review the claims of “too many” and “too niche,” but relative to mutual funds.
As of June 28, there were 1,929 ETFs, with 284 of them coming to market over the preceding 12 months.¹ Those numbers seem pretty large. And frankly, we are concerned that they indicate product development run amok. Investors can no longer assume ETFs are low-cost, broad-based, cap-weighted index funds.
However, those numbers pale in comparison with the many thousands of mutual funds available.
Whether there are too many ETFs depends in many ways on whether one thinks there are too many mutual funds. The first chart below shows that the number of mutual funds substantially overshadows the number of ETFs. Notably, it counts mutual funds by oldest share class. If it counted all share classes, the number of mutual funds would swell to 26,152! As well, the second chart shows that more mutual funds than ETFs came to market over the 12 months ended June 28. (If you count all share classes, then the mutual fund number would be 1,847.)
Are there too many ETFs? Maybe. Relative to mutual funds, are there too many ETFs? Maybe not.
ETFs gain some attention because many products provide exposures to areas of the market that some deem too niche in nature. But are they? Keeping with the “relative” theme, we categorized the equity ETF and equity mutual fund universes by investment focus: broadly focused, narrowly focused, and niche-focused funds.²
Our second set of charts shows that a little more than 60% of ETFs are niche or narrow. That is, their investment focus is not broad. Given that 24% of mutual funds are niche or narrow, one might conclude that ETFs are, in fact, too niche. However, we also see that just 27% of ETF assets are in niche or narrowly focused funds. That means 73% are invested in broadly focused funds! That’s not as much as the 91% for mutual funds, but 73% is certainly a very large majority.
Are ETFs too niche? Relative to product count, maybe. Relative to assets invested, maybe not.
It’s easy to notice all the ETFs coming to market, but investors shouldn’t lose sight of the fact that this really isn’t anything new. We’ve seen it before with mutual funds. In fact, maybe we still see it. Ultimately, the markets will sort out which funds are worthwhile and which ones are not. In the meantime, investors can take comfort from the fact that regardless of vehicle, the overwhelming majority of assets are held by broadly focused funds.
I would like to thank my colleague David Walker for his contributions to this blog.
1 Includes funds in the Morningstar Direct ETF database as of June 28, 2016, and consists of both ETFs and exchange-traded notes.
2 Broadly focused funds consist of broad U.S. and international equity, narrowly focused funds consist of sector and single-country funds, and niche funds consist of alternatives and commodities. We excluded bond and balanced funds because of the difficulty in accurately classifying the scope of their focus.
- All investments are subject to risk, including possible loss of principal.
- Vanguard ETF Shares are not redeemable with the issuing Fund other than in very large aggregations worth millions of dollars. Instead, investors must buy and sell Vanguard ETF Shares in the secondary market and hold those shares in a brokerage account. In doing so, the investor may incur brokerage commissions and may pay more than net asset value when buying and receive less than net asset value when selling.