ETFs shine brighter than mutual funds after brutal first half


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ETF providers could find a silver lining after the brutal first half of 2022 with some U.S. investors who suffered large losses in mutual funds during the period seeking to shift their assets to ETFs, analysts said. leaders.

That’s especially true for fixed-income funds, which in the first six months of this year saw the worst decline the commodity has seen in 30 years, executives said. Investors who have made huge gains in active bond mutual funds since the 2008-2009 financial crisis may have the opportunity to take losses on recent fund purchases, combined with embedded gains, and transfer that money in lower cost options.

“You can trade tax losses through tax loss harvesting from expensive mutual funds to ETFs, which are less expensive and more tax-efficient,” said Todd Sohn, managing director of technical strategy at Strategas. , an institutional broker and an advisory firm.

Many investors sell bond mutual funds while buying bonds AND F. U.S. fixed income fund redemptions so far this year have been significant, amounting to more than $205 billion in the first half of this year, according to data from Morningstar Direct. The $137.5 billion withdrawn in the second quarter represented the second worst quarter of sales since 1993. Net outflows from bond funds were not larger until the first quarter of 2020, when the coronavirus pandemic boosted equity volatility. markets.

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Sales slowed for taxable bond ETFs, which attracted $53.8 billion in net inflows during the first half, according to Morningstar’s database.

Embedded gains in long-running mutual funds are “probably the biggest hurdle whenever we talk with advisors looking to rebalance or use more ETFs,” said Michael Lane, head of iShares US consulting. Wealth Advisory at BlackRock.

Targeted tax loss harvesting – selling securities at a loss in order to offset capital gains tax owed on the sale of other securities – is an ongoing discussion for ETF stores, as vehicles serve as a place of temporary parking for transitioning assets. But opportunities to reap tax losses have been limited and relatively short-lived, Lane said, like in the spring of 2020 amid the pandemic-induced stock market crash.

But today, the protracted nature of the market downturn has given advisors more time to think about strategy and, in the case of fixed income, to consider how active managers have weathered the pullback, he said. he noted. “Some people have said, ‘I can get more precision in my exposure and gain more control over my portfolio through ETFs,'” Lane said.

Vanguard has also seen the repositioning of fixed-income securities dominate discussions with advisers, with some using ETFs to facilitate this, said Ryan Barksdale, head of portfolio analysis and advice at the Malvern-based fund boutique, in Pennsylvania.

“Ninety percent of conversations with advisors are about fixed income,” Barksdale said. “The reality is that harvesting tax losses in fixed income wasn’t really a thing or the potential to be a thing until recently.”

Index funds use some advisors “for portfolio efficiency and to reduce the due diligence burden of reviewing a number of active funds,” Barksdale said. But advisers are also using negative bond yields to reassess where they are taking risk and whether they want to hold that position or rebalance it, he added.

Investors have become quite comfortable with using the ETF structure to invest in bonds, executives and analysts noted. Bond ETFs have been criticized in the past for being “extremely dangerousand having the potential to seize during periods of market stress. But the pandemic-induced collapse in the Treasury market has boosted investor confidence in bond ETFs.

“March 2020 was a great stress test, and bond ETFs did what they were supposed to do,” Strategas’ Sohn said. Spreads widened and ETFs traded at a discount to net asset value, but ETFs ultimately proved to have better liquidity than the underlying holdings, he noted.

Equities are also ripe for ETF disruption via the reaping of tax losses, sources noted. But not all ETF sponsors see this as an opportunity to rip shares out of mutual funds. Rival ETFs are also ripe targets.

The $11m Future Fund, a thematic tech ETF launched last August, is positioning itself as a resting place for investors looking to reap the sharp drop in value of the $9.6bn Ark Innovation ETF , said Gary Black, managing partner of the ETF’s investment adviser. , also called The Future Fund.

“You’re at least exposed to those megathemes — finding big innovations and disruptive companies — but much more disciplined from a value perspective,” Black explained.

More broadly, Black, the former managing director of Janus and co-chief investment officer of Calamos, said the sharp decline is the perfect environment for mutual fund managers to “cannibalize” themselves and lead investors to switch to ETF versions of their funds before investors leave for rival ETF stores.

“We’ve been saying for a long time that the ETF is a better vehicle, a more efficient vehicle for active management, and this year there will be a lot of tax-loss selling of mutual funds and ETFs,” Black said. “Whether [mutual fund managers] don’t have a similar product, they’re going to lose out.

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