The Benefits of Active ETFs

June 16, 2022
Courtesy of Capital Group

Key Takeaways

  • Active ETFs feature active management, allowing investors an opportunity to pursue better-than-market outcomes and to protect against downside risk.
  • Managers of active ETFs can respond to rapid market shifts because they can rebalance holdings any time during the trading day.
  • There are three main types of active ETFs (transparent, semi-transparent and non-transparent) that offer varying degrees of transparency and differ in the types of securities they can hold.
  • Including active ETFs at the core of portfolios may help investors pursue consistency amid a variety of market environments as active managers may be better positioned to shift portfolio holdings in response to market downturns.

While exchange-traded funds (ETFs) have been around for nearly three decades, active ETFs may still be in the early stages of their growth. As of December 31, 2021, there were $6.96 trillion assets under management (AUM) in passive ETFs, or 96% of total ETF AUM, and three of the top five largest ETFs — all passive — offered exposure to the S&P 500.1 While these strategies may be a low-cost way to participate in market-like returns, they don’t allow investors the opportunity to pursue better-than-average returns and may not offer protection against downside risk.

Active Management in a Flexible Vehicle

Active ETFs leverage the benefits of the ETF vehicle, such as intraday trading and the ability to reduce the potential for unexpectedly realizing capital gains through distributions, while identifying opportunities to pursue better-than-market outcomes for investors. Because they’re generally not beholden to an underlying index, investment managers are free to invest in their highest conviction ideas. They also have the capability to respond quickly to rapid market shifts by selecting investments that they believe will provide the most promising opportunities in the current market environment.

Types of Active ETFs

Within the active ETF category there are three main structures to consider. As shown below, they offer varying degrees of transparency and differ in the types of securities they can hold.

ACTIVE ETF STRUCTUREFEATURESCONSIDERATIONS
Transparent• Fully transparent: Holdings are disclosed daily, which potentially allows for tighter bid/ask spreads compared with other active ETF structures
• Ability to invest in fixed income securities
• Ability to invest in non-U.S. securities (ADRs aren’t required by the structure)
• Additional precautions may be needed to protect investors against the potential for front-running (attempting to anticipate the moves of a large buyer or seller and trading ahead of them to make a profit)
Semi-Transparent• Helps shield the manager’s activities by disclosing holdings monthly or quarterly (and may also disclose a mix of actual and proxy portfolio holdings on a daily basis)• Offers less transparency than is typical for ETFs
• Currently, no ability to invest in bonds or non-U.S. equities*
Non-Transparent (also known as ANTs)• Provides the most protection for the intellectual capital of the strategy by disclosing holdings on a quarterly basis• Offers less transparency than is typical for ETFs
• Not widely accepted by the industry or wealth managers
• Currently, no ability to invest in bonds or non-U.S. equities*
*To invest in non-U.S. equities, semi- and non-transparent ETFs must use American Depository Receipts (ADRs), which may have less liquidity or could be subject to greater price fluctuations than the non-U.S. security itself.

Our Signature Investment Approach, Now Available as ETFs

When Capital Group decided to offer ETFs, we committed to providing what we believe is the best experience for investors. That’s why we opted for the transparent structure. It allows us the broadest investment universe to express our highest conviction ideas and gives investors the most visibility. This structure also works well with The Capital System, our signature approach to investing.

Our new ETFs aim to strengthen the core of investors’ portfolios and meet some of the most common portfolio allocations. They can be used together or to complement other investment vehicles, such as mutual funds or passive ETFs. A potential benefit of having active ETFs at the core is that they may help investors pursue consistency amid a variety of market environments as active managers may be better positioned to shift portfolio holdings in response to market downturns. The result could be a stronger core portfolio and possibly a smoother ride for investors while pursuing their long-term goals.

Active ETFs: Active ETFs feature active management, meaning the ETF manager (or team) uses an investment strategy to select the fund’s holdings to pursue better-than-market outcomes for investors.

Passive ETFs: Passive ETFs aim to track the risk/return profile of an index. Indexes may be broad or niche (such as those offering exposure to specific countries or sectors).

ANTs: ANTs = Active non-transparent ETFs

Investments are not FDIC-insured, nor are they deposits of or guaranteed by a bank or any other entity, so they may lose value.

Capital Group exchange-traded funds (ETFs) are actively managed and do not seek to replicate a specific index. ETFs are bought and sold through an exchange at the then current market price, not net asset value (NAV), and are not individually redeemed from the fund. Shares may trade at a premium or discount to their NAV when traded on an exchange. Brokerage commissions will reduce returns. There can be no guarantee that an active market for ETFs will develop or be maintained, or that the ETF’s listing will continue or remain unchanged.

Investing outside the United States involves risks, such as currency fluctuations, periods of illiquidity and price volatility. These risks may be heightened in connection with investments in developing countries.

As nondiversified funds, Capital Group ETFs have the ability to invest a larger percentage of assets in securities of individual issuers than a diversified fund. As a result, a single issuer could adversely affect a fund’s results more than if the fund invested a smaller percentage of assets in securities of that issuer. See the applicable prospectus for details.

There may have been periods when the results lagged the index(es). The indexes are unmanaged and, therefore, have no expenses. Investors cannot invest directly in an index.

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[1] Source: Morningstar Direct, as of 12/31/21.

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