Are slowing flows signalling passive woes?

This week’s Trialogue is all about charts.  It’s because we found a curious thing happening in the data when we started to compare passive and active FUM and flow data.

The story started with this chart…

Passive v active FUM (March 2011 – March 2015, $b)

    Source: Tria Managed Funds Review

There are no surprises here.  The chart shows the rise and rise of passive investing as a proportion of total FUM; more than doubling over a 5 year period.  It certainly has the feel of an ongoing trend.

But FUM is only part of the story, when we looked at inflow, things got interesting.

Passive inflows as a % of total inflows (March 2011 – March 2015, %)

           Source: Tria Managed Funds Review

The data shows passive inflows down across all asset classes as a proportion of the total (excluding multi-sector, but more on that later).  Fixed income and global equities have seen a lower proportion of inflows to passive strategies over the past two years.  Australian equities started to follow suit but has plateaued.

So, is it time for active managers to breathe a sigh of relief?  Has the system found its level?

Flows into passive global equities strategies, at 20% of the total global equity flows, are still high after falling from a 2011 high of close to 30%.  And it isn’t seeing anywhere near the fall that fixed income is experiencing.  Australian equities has experienced a rapid rise, from 11% in 2010 to a peak of 18% in 2013, and is now just taking a breather.

There’s also multi-sector to consider, where passive inflows are approaching 40% of the total.  40% is not a number to be ignored.  As we noted above, this could be explained by the movement of funds into MySuper and ADA migrations which are set to continue through to 2017.  From our experience, between 75% and 90% of investors in the flagship diversified funds of the major super funds are likely to be transitioned into the MySuper compliant product over that period.  That’s a significant movement of FUM, a large proportion of which will flow into passive multi-sector investments.  In these multi-sector funds, the impact moves from fund managers’ retail books to their institutional business as investors switch from active diversified funds (where fund managers previously has lucrative mandates) into low-cost passive vehicles (where that institutional opportunity no longer exists).

It’s also useful to look at other markets, more advanced along the passive investing path than Australia.  In the US, passive investing is big, accounting for more than 30%¹ of total fund assets in June 2015.  The story is similar in the UK (22% in 2013)².  So the dips in the proportion of inflows going to passive in the last couple of years might be less instructive than the trend and indeed we could have some way to go.

Finally, we don’t see the key drivers of growth in passive investing – the demand for simple, transparent, low cost exposure – changing any time soon.  This chart (from the Tria Australia Retail Wealth Insights Programme) shows that advisers’ intend to increase their allocations to passive strategies including ETFs strategies over the next 3 years (at the expense of active options).

Advisers’ expected change in allocation to funds by fund type over the next 3 years

Retail and institutional investors alike will continue to target lower fee budgets as macro trend drivers such as regulatory pressure, increasing engagement with super and disruptive market entrants (among others) place ongoing downward pressure on fees.  All of which suggests that the relative decline in inflows to sector-specific passive strategies recently is not evidence of a longer term trend.
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¹ Morningstar
² IMA Annual Survey, 2014