Jonathan: Welcome to this edition of the ETF show. I'm here with James Safer ETF research analyst with Bloomberg Intelligence. James, thank you for joining us this morning.

James: Yeah, happy to be here. Thanks for having me.

Jonathan:So we're just past the first quarter of 2023. What are some of the major trends that we saw happening in the first quarter of the year?

James: Yeah. So I know this is an ETF show, but I can't talk about what happened in the first quarter this year without talking about money market funds. Money market funds took in almost 400 billion in the first quarter. Almost 300 billion of that was in March. I looked at the flows for all mutual funds in March of 2023 and 20.

The top 29 funds were all money market funds, so they swept the ranks, completely distorted everything that's happening with flows in the fund market. So but if we switch back, that's obviously number one. If we switch to ETFs, short track, ultra short and short term bond ETFs, they took in a decent out of money. But ETFs didn't do as well as they normally do.

They only took in about $70 billion. So that's a little bit low. The other thing I want to say is last time I was on, I talked about how we expected a lot of liquidations to happen this year. We expected launches. A lot of liquidations were on record pace for liquidations. In 2023. We've had over 60 ETF liquidations so far.

And the other thing that you can't not you can't I can't not mention is active ETFs. Active ETFs make up less than 10% of the assets in the U.S. and they're taking in over 30% of the flows so far this year. That's led by a lot of legacy asset managers, people like DFA, Aventis Capital Group. Those types of players are pulling in big money so far this year.

Jonathan:And why are inflows to ETFs drying up? And then why do we see that uptick in active management inflows?

James:Yeah, so active interesting inflows for first of all, for ETF flows drying up, I'm not really sure. I think it's just the market. There's a lot of volatility in the market. There's not a lot of certainty what's happening. So people are just kind of there's no like real huge trends happening. The only trend we're seeing is a lot of money going to Treasury ETFs, which I also I've also mentioned.

So there's still money going there, but nothing else is really super hot right now. You can argue about four ETFs fall in there. And what was the other question you asked?

Jonathan: Why? Why are we seeing an uptick in active management, new inflows?

James: So that's that's also pretty clear. Legacy asset managers have realized that they can't avoid the ETF. Terrordome We do. We call it the Terrordome because it's very hard to make your way in the ETF space. And legacy asset managers, a lot of them for many years, were avoiding coming into the space. And over the last year or two they've had no choice but to jump in.

And we've now seen their sales, their sales groups, their distribution channels start pushing towards ETFs. And we think that's why we're seeing such a big growth in active management and ETFs in their flows this year.

Jonathan: And once again, maybe it's just my perception, but it feels like I've been hearing a lot more about buffer ETFs. Is that just me or we actually seeing the industry an uptick in interest in buffer ETF?

James: Yeah, no, we're definitely seeing an uptick in interest. I wrote pieces back in 2018, 2019, 2018, 2020, about how I was very bullish and buffer ETFs. What they are is they're basically structured products and you there's all these different things, different ways to do it. They've been available to plenty of more high caliber, high net worth individuals. Now they're democratizing it, putting in the ETF wrapper.

There are over 23 billion assets right now. BlackRock just launched the file innovator has billions in assets. First trust sponsor partnered with CIBO to launch them. So there's a lot of issuers in the space. There's a lot of interest. They're relatively high margin. I believe they charge over 75 basis points on average. So there's a lot of interest there and they're getting a lot of flows.

Like I said, they have over $23 billion in assets. They've only been around for four years. So there's definitely interest.

Jonathan: And who who you mentioned the high net worth individuals might be using more buffer ETFs. How are they using them in their portfolios? Yeah.

James:  So I don't know if it's necessarily high net worth using these ETFs, but there's definitely that case for institutions of high net worth individuals use structured products. The problem with structured products, if you don't know what you're doing, is there's a lot of hidden fees. You don't know exactly what you're getting yourself into with the ETF wrappers all completely transparent.

So there's a lot of reasons why people use them. Either they for a while when there were interest rates are really low, people are using them to take a slice out of their fixed income portfolio. Say they had a 6040, they were taking a slice out of that 40, putting it in these buffer ETFs because they weren't getting yield.

It was a way to generate returns. And the other reason people like it is because you can control your upside and downside risk. So the way they work is there's three parts of it, right? There's one part where they're giving you exposure to the market and then another part there's a cap on that exposure and a buffer on that exposure.

So if you a 10% buffer, the market goes down 12%, and you're only going to lose 2% in that situation. But if but I need to do that. You're giving up a cap, right? So you're going to be capped at, say, 15% of the upside. So when you go that way, though, over the long term, you're going to lose out to a broad market equity return.

But over the short term, if you have some reason you want to use that money, you want to control your risk, return metrics, and things like that. There are a lot of reasons that you might want to use this. Maybe you have money that you have set aside that you want to use to do something, buy a boat in a year, but you don't want to just put it in a savings account.

You want to have the potential to get 15% returns. You might put it in something like this for a year. So there's a whole bunch of different reasons. Obviously, timing the market. There's a lot of concern about a recession coming, and the Fed potentially having to cut rates. So people are trying to play this. They're using this timing vehicle.

So tactical, strategic, there's a lot of different reasons people are using these and they're coming out with tons of different variations where you're constantly seeing new ETFs launch using this basically structured product in an ETF wrapper situation.

Jonathan: And you mentioned the recession word here. What are you expecting for the rest of 2023 in terms of overall macroeconomics and then for the ETF space?

James: Yeah. So our chief rate strategist I sit across from down in Princeton, New Jersey. He's very he basically thinks the Fed is going to get hiked another couple of times and then hold it there. He doesn't see the cuts that the market is pricing. So that's one thing I would say the things I'm watching in the ETF space, I still think there are more liquidations coming.

There are a lot of ETFs with low assets that aren't just gaining traction right now. So some issuers are going to have to close them. The other thing I'm really watching in the space is Vanguard's pattern, where they have the Vanguard ETFs, and most of them are not most of them, a lot of them are share classes of their mutual funds.

So that was a patent they had. That patent expires next month in May of 2023. So we think there's going to be a lot of issuers. We know for a fact there's interest and issuers doing it. Whether or not they're able to launch in 2023 is a different question. We also have another issuer who filed to do something similar, Perpetual, with an active management wrapper.

So there's a lot of interest in creating this mutual fund and ETF share class situation. The ETF space like Vanguard has done for the last 15-plus years or 20-plus years, I should say. So we think that if it doesn't happen this year, I think it might somebody will eventually do it. But it's going to happen and somebody will get it through and we're going to see how that how that grows.

Jonathan: Well, James, thank you so much for sharing your expertise with us this morning.
James: Yeah, thanks for having me. It was fun.