Passive investments such as ETFs have become increasingly popular in recent years. One reason for this may have been the long period of low interest rates, as investors were looking for simple ways to invest excess money as profitably as possible. But now the days of low interest rates are over – and with them those of ETFs, Smart Beta and Co.?
• Study “Passive Investing 2023” surveyed 148 pension funds from several countries
• The trend towards passive investing continues even under changing market conditions
• Passive investments remain attractive due to low fees
Since 2018, the ETF provider DWS Xtrackers has been conducting an annual “passive investing” study in collaboration with CREATE-Research. For this year’s edition entitled “The future of passive investing after the bear market”, 148 pension funds from Europe, Australia, Asia and North America were surveyed, which together manage assets of around 1.7 trillion euros.
As the study notes, the growth momentum of passive investing coincided with the start of a period of ultra-loosening monetary policy together. “The key question now, and the question this report aims to shed light on, is whether the end of this era also signals a shift in attitudes toward passive investing,” said the study authors. The market conditions have changed fundamentally since the beginning of 2022: Numerous central banks switched from an ultra-loose monetary policy to a rigorous tightening course and raised key interest rates sharply in order to curb high inflation. Critics have long argued that if excess liquidity flows out, the rise of ETFs and other passive products would also end, according to the DWS website. But even though this liquidity has been draining for the last two years, the popularity of passive investments among pension funds has continued to grow, the survey results show.
Pension funds are increasingly relying on passive products
As the study shows, passive investments currently make up up to 40 percent of the portfolio at 83 percent of the pension funds surveyed. 17 percent said they would rely even more heavily on these investment instruments. 39 percent of survey participants also said that they wanted to increase the proportion of passive investments in their portfolio within the next three years. On the other hand, 41 percent stated that the share of ETFs etc. in their portfolios was unlikely to change during this period. The trend towards passive investing is likely to continue overall. “Current estimates suggest that passive investments will account for more than half of global retirement assets by 2027,” said the study’s authors.
However, active investment products are unlikely to be completely displaced – at least in the case of pension funds. 61 percent of survey participants stated that active and passive investments will complement each other as equal partners in their diversified portfolio. According to the study, they rely on the core-satellite strategy, with passive instruments forming the core and covering important asset classes such as global stocks or government bonds that are traded on highly efficient and liquid markets. The satellite investments that are traded in illiquid and less efficient markets – such as small caps or emerging market bonds – then consist of active investments.
Survey results show: Passive investments score points in all market phases
The core-satellite strategy is likely to prove promising, because in the recent weak phase, passive investments appeared to be ahead of active investments: 60 percent of the pension funds surveyed said that their passive investments would have performed better in the 2022 bear market the active ones. “Passive investing is not a bull market luxury. In the bear market of 2022, it performed better in relative terms than active investing, confusing its critics,” the Xtrackers study also says.
And even in the current market environment, passive investments can score points with survey participants in an important area: 80 percent of the pension funds surveyed stated that the low fees and low transaction costs were a reason why they viewed passive investing as a fundamental trend. These characteristics are particularly important now, as the markets are prepared for a prolonged period of low nominal yields due to recent central bank tightening, the study authors explain. High fees and transaction costs would put additional pressure on returns.
“The bear market has not undermined the rise of passive investing as a fundamental trend due to their lower costs, straightforward governance, predictability of performance and their ability to slice and dice the investment universe in a period of volatility,” the study said. Accordingly, 52 percent of the pension funds surveyed also stated that passive investments would remain a permanent part of their portfolio.
Editorial team finanzen.net
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