Move to passive investments gathers pace

Passive investments index ETF Betashares Vanguard iShares

If there was one thing that the Hayne Royal Commission really drilled home to the average Australian, it was that so called “professional” fund managers were significantly over-rated.

Intuitively, you would think that professionals would easily outperform a “dumb” index funds that simply buy, say, the ASX 200 index.

You would think they would be able to pick some winners that were rising fast and, more importantly, avoid the over-valued duds that surely must populate the ASX 200 in equal numbers.

Most managers fail to consistently beat the index

The fact is that the vast majority of fund managers fail to consistently beat share market indices, as was shown so convincingly by the Royal Commission.

While some fund managers might even beat the index in raw terms, by the time their fees are taken out they are still likely to be behind.

And even expert stock pickers that manage to beat the index one year may struggle to beat it the following year as market trends change, leading to a similar problem in picking fund managers like you pick stocks – you might have a hot one for a year which turns into a dud the next.

It turns out the simplicity of an index fund is really tough to beat because it holds a chunk of every stock – some which will unexpectedly outperform and others that might unexpectedly underperform.

An ETF also buys more of any stock that is rising and sells part of any stock that is rising so that it keeps to the proportion of that stock in the index, which is actually a very efficient way to cascade successful investments and winnow out some of the losers – which is another reason why it is so hard to outperform an index fund.

ETF’s know no fear

An index fund also doesn’t get spooked – it doesn’t sell out when things get tough but it also hangs around for those surprise share market rallies which have been a real feature of the past couple of years.

A fund manager that misses out on even a few days of a surprise rally will always struggle to catch up through even the most expert stock picking.

The shift is obvious in the October numbers for exchange-traded funds (ETFs) – most of which follow various indices – which attracted a record amount of money from Australian investors.

More than $2 billion a month flowing into ETF’s

More than According to local ETF company Betashares, October was the second consecutive month the Australian ETF industry broke the net inflow record, adding $2.3 billion under management after grabbing $2.1 billion in September.

That is a big deal because before these months the monthly ETF inflow has never exceeded $2 billion.

The total value of Australian ETF’s also hit a new record high of $73.8 billion, due to rises in the value of many existing holdings and which is also another all-time record.

Investors who were keen to increase their exposure to Australian equities increasingly chose ETF’s to do the job and those who wanted to take an investment slant – such as buying the beaten down banks – could also do that through ETF’s that concentrate on financial stocks.

Even amongst ETF’s it is not all plain sailing with some of the smaller and less popular ones closing down, notably those run by AMP (ASX: AMP) which will close down three ETF’s run in conjunction with Betashares by December 4.

Of course, AMP itself was probably the biggest victim of the Royal Commission, with extraordinary stories of large fees charged for no services given and many other failings.

On the whole though, it is boom time for the ETF providers with Betashares and Vanguard each attracting more than $4.3 billion of investment so far this year.

iShares is next with $2.3 billion of year-to-date inward flow, while among the smaller providers Platinum lost $50 million out of its ETF’s.

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