The exchange traded funds (ETF) industry continues to grow at a phenomenal rate to become the preferred passive investment option for retail and institutional investors alike, with these funds and products roping in a record $100 billion in cash inflows over the first five months of the year.  Data compiled by the ETF industry consultancy firm ETFGI shows that global ETFs saw their asset-base swell by $107.4 billion over the January-May period, thanks to the high demand for equity-linked ETFs which made handsome profits from the equity market rally in the U.S. and Germany.
The world’s largest ETF provider, BlackRock (NYSE:BLK), claimed a lion’s share of this growth with inflows of just under $31 billion in its popular iShares offering followed by Vanguard with almost $29 billion in inflows.
State Street (NYSE:STT), which manages more assets in its worldwide ETF offerings than Vanguard has had to rough it out over the period with net outflows of $3.7 billion over the five-month period due to investors pulling out heavily from its top-rated gold ETF. As we had pointed out in our recent article Does The Gold Market’s Turmoil Affect State Street?, this outflow in itself does not present a major concern for State Street’s overall share value. However, the company is clearly falling behind its competitors in the lucrative ETF business – allowing them to pocket the rich spoils on offer.
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A glance at the chart above makes it clear why State Street’s waning fortunes in the ETF industry does not really impact its total value – because the ETF business contributes to less than 10% of the financial giant’s share value as opposed to the bulk of the value stemming from its operations as a global custody bank. But then, State Street’s strong presence in the ETF industry also cannot be overlooked. Nor can the fact that the asset management business (of which the ETF unit is a part) is an important revenue driver in the current low interest environment, which is squeezing the profitability of State Street’s core custody business.
There is an important thing that must be pointed out here. Investors continuously shift their preference among various types of ETFs – equity, fixed-income, gold or other alternative types – based on market conditions. This is neither a new nor alarming phenomenon. For example, fixed-income ETFs were in vogue about two years ago after which equity ETFs took the spotlight. Gold ETFs remained high on investors’ preference list for years until a few months ago when falling gold prices made them unattractive.
But even as investors shift their investments from one type of ETF to another, they usually do so with the same provider. So, the shifting investor preference normally would not have any negative impact on the total assets that asset management giants like BlackRock, State Street and Vanguard manage under all their ETF offerings put together. But ETFGI’s data shows that investors are shifting out of State Street to its competitors, as it witnessed a net outflow while BlackRock and Vanguard saw great inflows in their ETFs.
This is a cause for concern for State Street as investors clearly do not see its ETF offerings outside of gold performing as well as those provided by competitors. This perception could hurt State Street in the long run by hitting growth in the size of assets under its ETFs (shown in the chart below).Notes: