By Joe Light and Jason Zweig
July 2, 2013 10:10 p.m. ET
Maybe the Wall Street financial-product machine really can run out of new ideas.
Just 70 exchange-traded funds and other exchange-traded products were launched from Jan. 1 to June 30, according to IndexUniverse LLC, a research firm in San Francisco. The total is down 44% from 126 in the same period a year earlier.
The slide is a sign the market for ETFs—which hold a bundle of investments and boomed in the past decade as a cheaper, tax-efficient alternative to traditional mutual funds—has gotten so saturated fund companies are struggling to come up with niches that aren’t served by existing ETFs.
Just this year, companies have launched ETFs that track Nigerian stocks, that use “forensic accounting” to avoid stocks with financial red flags, and that give leveraged exposure to the Brazilian market.
“It’s getting harder to find unique ideas that have not been done before,” said Lorraine Wang, global head of ETF products and research for Invesco PowerShares.
The unit of asset manager Invesco Ltd., based in Atlanta, has launched seven exchange-traded products in the past 12 months, down from 10 in the period a year earlier. Invesco PowerShares has 162 ETFs and other exchange-traded products with about $80 billion in total assets. Its relatively new PowerShares S&P 500 Low Volatility Portfolio has raked in $4.55 billion, but the firm’s Global Wind Energy Portfolio and Dynamic Insurance Portfolio didn’t catch on and shut down earlier this year.
The slowdown is a problem for investment companies that collect fees from ETF investors in return for running the funds. ETF operators typically charge an annual fee ranging from a fraction of a percentage point to more than 1% of each fund’s assets.
The nation’s biggest ETF, the SPDR S&P 500, would generate fees of about $127 million in the next year if its assets held at the July 1 level of $134.08 billion. Launched in 1993, it tracks the Standard & Poor’s 500-stock index and is run by State Street Corp.’s State Street Global Advisors.
A total of 1,475 exchange-traded products were listed on U.S. exchanges as of June 28, according to IndexUniverse. As of that day, those funds had $1.438 trillion in assets, up 25% from $1.154 trillion a year earlier.
James Ross, senior managing director at State Street, said the most established ETF operators can eke out a profit on funds that bring in just $100,000 in annual revenue, because those firms spread the costs of back-office chores such as customer service and handling legal matters across many funds.
Firms just entering the business might need to generate at least $250,000 a year, said Mr. Ross, whose firm in April launched one of this year’s few success stories—the SPDR Blackstone/GSO Senior Loan ETF, which has $332 million in assets. Many analysts and asset managers consider a fund successful if it gathers at least $100 million in assets. ETFs that gather less than $50 million could be in danger of closing, they say.
Some fund-industry analysts and executives say the deceleration was inevitable, given the huge growth of ETFs. The slowdown shows the industry has churned out cheap and efficient ETFs for just about every investor interest, they say.
“The ETF market has reached a maturation point,” said strategist Victor Lin at Credit Suisse Group AG. The largest ETF operators by assets are BlackRock Inc., State Street, and Vanguard Group Inc. News Corp’s Dow Jones, publisher of The Wall Street Journal, owns a minority stake in S&P Dow Jones Indices, which publishes indexes that are licensed for ETFs.
Some analysts saw the new-idea drought coming as companies increasingly turned to narrower and more-obscure corners of financial markets when launching ETFs—all the obvious ideas were taken. Three of the country’s largest ETFs are clones of the S&P 500, while more than a dozen have performance tied to the price of gold or gold mining stocks.
In April, Direxion Funds, managed by Rafferty Asset Management LLC of New York, launched the Direxion Daily South Korea Bull 3x ETF, which lets investors earn three times the daily return of South Korean stocks. It has about $2 million in assets so far and is down about 23%. Direxion Chief Marketing Officer Andy O’Rourke says that the ETF is meant for short-term traders and that he thinks growth in South Korea will spur more traders to look for new ways to get exposure to its stock market.
The three-month-old Global X Central Asia & Mongolia Index ETF gives investors exposure to firms that get revenue from or are based in countries such as Mongolia, Kyrgyzstan and Uzbekistan. Run by Global X Management Co. of New York, the new ETF is down 12%, with assets of about $1.3 million. In an emailed statement, Global X CEO Bruno del Ama said the ETF launched in response to interest from institutional investors.
“We’ve seen issuers sort of throwing stuff against the wall to see what sticks,” says Paul Baiocchi, senior ETF specialist at IndexUniverse. “The reality is that, as more ETFs come to market, there are less and less ways to repackage strategies.”
Some fund companies are wary about starting new ETFs, because others had trouble catching on with investors. So far this year, 42 ETFs and other exchange-traded products have closed, up sharply from 17 during the same period in 2012.
Last fall, Russell Investment Group closed 25 of its 26 U.S.-based ETFs, less than two years after launching its own funds. The shutdowns included funds that sought exposure to forces such as momentum and high or low beta, or volatility.
Those strategies have caught on far less with individual investors than with hedge funds, pension funds and other institutional investors. “We were ahead of our time,” says Rolf Agather, Russell Indexes managing director of research and innovation. He wouldn’t comment on whether the ETFs were profitable. Russell Investment Group is a unit of Northwestern Mutual Life Insurance Co., and Russell Indexes is part of Russell Investment Group.
Eleven of the 52 fund companies that opened their first ETFs in 2007 or later have since closed their ETF operations, according to Credit Suisse.
The recent struggles might mean trouble for asset-management giants such as Fidelity Investments that made their names in the mutual-fund business and now are eyeing ETFs as a source of growth.
The companies hope investors will flock to “actively managed” ETFs that rely on the expertise and research of stock and bond pickers to make money.
Fidelity won approval from the Securities and Exchange Commission in May to create actively managed ETFs. They aren’t likely to arrive until next year, says Jacques Perold, president of Fidelity Investments’ Fidelity Management & Research Co.
The Boston firm’s lone ETF was launched in 2003 and tracks the Nasdaq Composite Index. “We think of this as a multichapter novel,” he says. The first chapter is done. We think the next is going to be active.”
One of Fidelity’s chief competitors, Valley Forge, Pa.-based Vanguard, has already built the U.S.’s third-largest ETF business, with $277.61 billion in assets as of June 28, according to IndexUniverse.
Even if actively managed ETFs don’t catch on, “there are plenty of good ideas yet to come,” says Ravi Goutam, head of product development in the Americas for iShares, the biggest ETF company by assets and a unit of New York-based BlackRock.
He says the ETF business will see more innovation in bond funds and “alternative” stock-index approaches like minimum volatility, which homes in on stocks that have experienced less-severe price swings than the S&P 500.
Source: The Wall Street Journal
http://www.wsj.com/news/articles/SB10001424127887323689204578571231733052800