The Year in ETFs

Susan Dziubinski: Hi, I'm Susan Dziubinski with Morningstar. Here today with me to discuss the year in ETFs, and to look ahead to what 2022 might bring, is Ben Johnson. Ben is Morningstar's Global Director of ETF Research.

Hi, Ben. Nice to see you today.

Ben Johnson: Glad to be here, Susan.

Dziubinski: So, let's dig in and talk about some headlines from 2021 when it comes to ETFs. First, we saw a couple of records smashed that year, the first being in terms of flows. What happened?

Johnson: Well, the big headline in 2021 is, as you alluded to, record flows. So, through the end of November, we saw $794 billion in net new money poured into ETFs. That absolutely smashes the prior record set just last year to smithereens--which was $505 billion. Now, ETFs in 2021 surpassed that $505 billion flow mark in late July of this year. So, the question isn't whether or not the record is going to be broken--it's been absolutely shattered--it's by how much as we look forward to the rest of the year.

Dziubinski: So, what are people buying? What are investors buying? And maybe what hasn't resonated as much with ETF investors?

Johnson: Well, so often when it comes to investing, boring is best, and boring in the eyes of many investors this year--as has been the case for years now--is beautiful. So, most of the money continues to flow into the most broadly diversified, the lowest-cost, supremely tax-efficient, extraordinarily liquid exchange-traded funds. Investors are perfectly happy to pour their money into funds that are every bit as exciting as watching paint dry and grass grow at the same time. And really, the poster child for this category of funds is the Vanguard Total Stock Market Index ETF VTI, carries a Morningstar Analyst Rating of Gold because it possesses all of those characteristics that I mentioned in spades. Now, VTI, which is the ETF share class of a bigger fund, a fund that today is $1.3 trillion big, has seen $40 billion of net new flows through the end of November 2021. That accounts for 5% of all flows into all ETFs, represents 24% organic growth for the ETF share classes' assets in 2021, and is a case in point that investors are very happy to own a very broad diversified portfolio of stocks, pay a fee that's as small as humanly possible, and to recognize again that boring is often best. Boring can be beautiful.

Dziubinski: And speaking of records, we also saw another record broken in 2021 and that was the number of new ETFs that came to market. Talk a little bit about what we saw there.

Johnson: So, another record in terms of new ETF launches that has been absolutely obliterated set just last year. We saw 300-plus ETFs launched in 2020, 400-plus launched in 2021. Now, what I would say is that as it pertains to ETF launches, we're not in Kansas anymore. Boring is certainly not a theme that you see among new ETF launches, which covered the waterfront ranging from everything to funds that invest in stocks that have exposure to psychedelic drugs to now Fidelity Magellan, the ETF, and everything in between.

Dziubinski: So, speaking of Fidelity Magellan, we did see the first mutual fund to ETF conversions happen in 2021. First, talk a little bit about what that is and why fund companies pursue it, and what happened.

Johnson: Well, this is really, I think, an exclamation point on a trend that's been in place for quite some time. What we see is really the sun has begun to set on mutual funds, and you see that really come out when you analyze the flows data. Most incremental dollars, certainly in the equity space, are beginning to flow into ETFs as opposed to open-ended mutual funds. ETFs are becoming the format of choice for a growing number of investors. So, if you look at even last year, in 2020, what we saw is that the number of new ETF launches surpassed the number of mutual fund launches for the first time ever. Fast forward to 2021, and that gap has only grown, and to your point, we've seen the first-ever mutual-fund-to-ETF conversions. So, that's mutual funds no longer wanting to be mutual funds but to be ETFs to offer the same benefits that ETFs offer to their investors, which really center around lower fees, superior tax efficiency, and just greater portability, more dynamism. The fact that ETFs, like stocks, trade on an exchange and are more broadly available in lesser investment amounts to a broader number of investors. So, I think this is a trend that's only going to continue if not accelerate for the foreseeable future.

Dziubinski: So, in 2021, we saw record-breaking flows, record-breaking new issuance of ETFs. What do you think we're going to see in 2022 when it comes to ETFs, Ben?

Johnson: I fully expect that we're going to see more of the same. Now, obviously, that's all with the all-important caveat that it depends, and it depends in large part on what's happening in markets. So, certainly, the market environment in 2021 has been very favorable. Investors have had really no other choice than to come back to the punch bowl time and time again to continue to invest in the market. Should the market turn south for whatever reason, should investors get skittish, we could see the pace of flows into ETFs decelerate. But I think at the margin, you're going to see ETFs relative to mutual funds experience above-normal growth. I think you're going to continue to see more and more new launches that take us ever further from the comfy confines of Kansas. And I think most of the money is going to continue to flow into the most broadly diversified, the most widely useful and usable ETFs, those that do good by a lot of different types of investors who are looking to invest against their long-term goals.

Dziubinski: Well, Ben, thank you for your perspective on this record-breaking year, and I'm sure we'll be talking to you throughout 2022 about perhaps some other records being broken. We appreciate your time.

Johnson: Well, I'm looking forward to it. Thanks, Susan.

Dziubinski: I'm Susan Dziubinski with Morningstar. Thanks for tuning in.

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