Passive inflows continues to dominate in the U.S. – catching up in Europe

The gap between passive and active flows in the U.S. continues to widen raising the specter of the eventual demise of actively managed funds. In 2016, active funds lost $204 billion while passive funds gained nearly $500 billion. Even in Europe, where active funds continue to dominate, passive funds recorded larger inflows than active funds for the first time. It is probably too soon to tell whether European investors have reached a tipping point, but, in the U.S. the dominance of passive fund investing seems irreversible.

Performance and costs driving the gap

Each year, as more investors understand the effect fees have on their investment performance, the gap between passive and active widens some more. Passive investors have figured out they can achieve consistent returns that at least match the markets at a fraction of the cost of active funds. Active fund managers have yet to prove they can consistently outperform the markets all the while charging higher fees and exposing investors to more risk. In fact, after fees and expenses, most active funds fail to underperform the indexes and the passive funds that track them.

Passive funds making a move in Europe

The big news in 2016 was the crossover of inflows from active funds to passive funds in Europe. For the first time, passive funds recorded higher inflows than active funds. For more than a decade, European funds assets have been dominated by active funds, accounting for as much as 92% of overall assets under management (AUM). In recent years, the growth of AUM in passive funds has been outpacing active funds. In 2016, AUM in passive funds grew by 18%, which was double the rate of growth in 2015. Active funds grew by just 4% according to Morningstar. Passive assets now constitute 12% of overall AUM as compared to just 5% in before 2011.

Is this a tipping point?

While it may be too soon to know if this is the tipping point that U.S. investors reached a decade ago, it is evident that European investors are beginning to invest where they see the best value and results. Some analysts say that 2016 might have been an anomaly with major macro events such as Brexit and negative interest rates the primary drivers. Passive funds tend attract more assets during periods of uncertainty. Investors don’t want to be trapped in a more expensive active fund that is susceptible to volatility.

Regardless of the causes, European investors have begun to make the turn to passive investing, setting record numbers of inflows in each of the last three years. Whether three years is long enough to represent a trend is hard to say, but, the pressure is building on active fund managers to rise to the challenge or they risk obsolescence.


Author: Vitali Butbaev, Velstand Capital Founder
Vitali Butbaev