birthday cake

On March 9, the exchange traded fund turned 30 years old. In just three decades, ETFs have captured US$6 trillion in assets under management, and there are now more than 7,800 funds worldwide. ETFs are increasingly becoming the investment vehicle of choice for investors because of their liquidity, transparency, efficiency and ease of trading.

The origin story

While ETFs have become a global investing phenomenon, their origins are a made-in-Canada success story. The world’s first ETF was launched in 1990 on the Toronto Stock Exchange as TIPs: the Toronto 35 Index Participation Fund. Today, TIPs is better known as the iShares S&P/TSX 60 Index ETF, Canada’s largest ETF with more than $9 billion in assets under management

The success of the world’s first ETF didn’t take long to catch on south of the border. Three years later, on January 22, 1993, the first U.S. ETF was launched: the S&P 500 Trust ETF, which is now the world’s largest ETF, with approximately US$300 billion in assets under management.

Since then, ETFs have launched in 58 countries across the world, with new funds launched regularly.

Types of ETFs

While the first ETF provided passive exposure to core indexes like the TSX-35 and the S&P 500, today’s ETF landscape offers greater variety for investors, including:

Index ETFs. Also known as benchmark ETFs, index ETFs provide investors with passive exposure to the performance of market indexes, with their holdings reflecting the constituents of their benchmarked index. These are often the most popular and lowest-cost ETFs.

Active ETFs. Unlike index ETFs, actively managed ETFs’ holdings can change day to day, based on the discretion of their portfolio managers. These ETFs’ strategies can range from reducing volatility to attempting to beat the market.

Commodity ETFs. Commodity ETFs make it easier for investors to access specific commodities by holding derivative contracts to reflect the price of the underlying commodity, like gold or oil.

Fixed income ETFs. Bonds and other debt instruments are typically illiquid and hard to trade. ETFs have made it possible for DIY investors seeking investment security to access these investments without sacrificing liquidity.

Leveraged/inverse ETFs. Through the use of leverage and short-selling, these ETFs offer investors the ability to gain 2x, -1x and -2x exposure to popular market indices and strategies.

ETFs versus mutual funds: The next evolution

Before the ETF, there was the mutual fund. While mutual funds can trace their history back to the 18th century, the first modern-day mutual fund was launched in the U.S. in 1924. For nearly 70 years, mutual funds represented the easiest way to access a diversified basket of securities.

True to their name, ETFs trade over stock exchanges, while mutual funds must be purchased either through a provider or a brokerage. ETFs also offer:

Liquidity. ETFs can be bought and sold throughout the trading day, while mutual fund units are only bought or sold after market close.

Lower cost. On average, ETF management fees are lower cost than mutual fund fees. This is because mutual funds can have additional costs, like load, marketing or trailer fees, while ETFs do not.

Transparency: ETF holdings are regularly updated and disclosed, while mutual funds do not always disclose their holdings in full.

Mutual funds still control a significant portion of fund assets under management, but ETFs are gaining ground. In Canada, ETFs outsold mutual funds for the first time in a decade in 2018. In 2019, ETFs once again outpaced mutual fund sales.

ETFs in Canada today

As at Feb. 29, 2019, Canadian ETFs held more than $210 billion in assets under management, up more than five times their 2010 asset levels. In 2010, there were only four ETF providers. Today, that number has ballooned up to 37 providers managing 776 ETFs in Canada – approximately 10% of the global number of ETFs.

ETF trends for tomorrow

If the last decade is any indication of the outlook for ETFs, the future is bright. For investors interested in some of the trends that could be on the horizon in the coming decade, here are some to watch for:

  1. ETFs are the vehicle of choice for new asset classes and themes. From marijuana to Bitcoin to liquid alternatives, ETFs, because of their efficient structure, have become a choice vehicle for providers bringing new asset classes to market. In 2020, expect to see more innovative offerings coming to market through ETF structures.
  2. Increased competition could lead to lower fees. The growth of Canada’s ETF marketplace has increased the levels of competition between providers, with many vying for greater market share by lowering their fees to entice new investment.
  3. A greater focus on responsible investing. In 2019, responsible investing became a focal point of Canadian investing. Scrutiny on environmental, social and governmental (ESG) factors has put many ETF holdings under the microscope. Many providers are looking to appeal to ESG-conscious investors by offering funds that match their ethics and values.

Steve Hawkins is chair of the Canadian ETF Association (CETFA) and CEO of Horizons ETFs Management (Canada) Inc.