the growth of passive and its impact on the market...impact on the market •index changes can lead...

The Growth of Passive and its Impact on the Market

Ivan CajicGlobal Head of Index & ETF ResearchMarch 2019

Louisville CFA Society

© 2019 Virtu Financial. All rights reserved.

Not to be reproduced or retransmitted without permission. Compliance #12819-7084

Passive Asset Growth

• Global indexed investments

• U.S. Indexed equity investments

• Product demand


• More than $13 Trillion invested

in passively indexed funds

• Passive assets have doubled in

less than seven years

• Assets continue to transition

from active into passive

Global indexed investments

0

2

4

6

8

10

12

14

16

2011 2012 2013 2014 2015 2016 2017 2018

Assets

($ T

rilli

ons)

Global Indexed Assets

0

5

10

15

2011 2012 2013 2014 2015 2016 2017 2018

Assets

($ T

rilli

ons)

Indexed Assets Among Largest Index Providers

S&P Dow Jones MSCI FTSE Russell

Source: Pensions & Investments

Source: S&P Dow Jones, MSCI Inc, FTSE International Ltd

3


• $6.5 Trillion of passive investments in US equities

• Accounts for 45% of all stock market investments

• Passive indexers own 20%+ of many US companies

US indexed equity investments

Source: Morningstar

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

35.00%

40.00%

45.00%

50.00%

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Percentage of US Stock Investments in Passive Funds

4


• Low cost

• Environmental, social, governance (ESG)

• Factor/smart beta

• Domestic indices

Increased product demand

5


• Regulation has led to increased cost transparency

• Consumer demand shifting to low cost alternatives such as Robo Advisors

• ETF expense ratios fractions of a percent

Low cost

Source: Bloomberg

Description Fund Expense Ratio

US domestic equity SCHB, ITOT, SPTM, VTI 0.03%-0.04%

US fixed income SCHZ, SPAB, BND,

AGG

0.04%-0.05%

International equity developed markets IDEV, SCHF 0.05%-0.06%

International equity emerging markets IEMG, VWO, SPEM,

SCHE

0.11%-0.14%

6


• Consumers want to reward companies that have a low carbon footprint and

strong corporate governance

Environmental, sustainable, governance (ESG)

Source: Morningstar

0

20

40

60

80

100

120

Jan

-08

Ma

y-0

8

Se

p-0

8

Jan

-09

Ma

y-0

9

Se

p-0

9

Jan

-10

Ma

y-1

0

Se

p-1

0

Jan

-11

Ma

y-1

1

Se

p-1

1

Jan

-12

Ma

y-1

2

Se

p-1

2

Jan

-13

Ma

y-1

3

Se

p-1

3

Jan

-14

Ma

y-1

4

Se

p-1

4

Jan

-15

Ma

y-1

5

Se

p-1

5

Jan

-16

Ma

y-1

6

Se

p-1

6

Jan

-17

Ma

y-1

7

Se

p-1

7

Jan

-18

Assets

($ B

illio

ns)

Passive ESG Asset Growth

Europe United States Rest of World

7


• Hybrid investment strategy using principles of passive and active

• Overlays include:

• Liquidity

• Volatility

• Momentum

Factor/smart beta

8


• Growing demand for access to foreign markets

• Emerging markets funds, especially China, have seen significant inflows

Domestic indices

9

Impact on the Market

• Index Rebalances

• Price Impact

• Volume

10


• Indices periodically rebalance to ensure appropriate exposure

• Rebalances often lead to billions of dollars of turnover

• Occasionally, corporate actions prompt ad-hoc index changes

Index Rebalances

11


• Price moves of 10% or more are common

• Surge in volatility

Price impact

Source: Virtu

-20%

-15%

-10%

-5%

0%

5%

10%

14-D

ec

17-D

ec

18-D

ec

19-D

ec

20-D

ec

21-D

ec

Performance: SBGL vs Gold Miners Index

SGBL GDX

0%

5%

10%

15%

20%

25%

8-J

an

9-J

an

10-J

an

11-J

an

Performance: NEO vs S&P 600

NEO SP600

12


• Index changes can lead to multiple days worth of volume

• Real, transactable liquidity

Volume

Date SBGL Volume

12/3/2018 1,707,289

12/4/2018 1,711,630

12/6/2018 1,894,371

12/7/2018 2,356,435

12/10/2018 1,515,778

12/11/2018 1,550,462

12/12/2018 1,386,672

12/13/2018 2,089,507

12/14/2018 1,582,967

12/17/1208 5,092,123

12/18/2018 4,212,881

12/19/2018 6,451,948

12/20/2018 6,325,188

12/21/2018 46,979,696

Date NEO Volume

12/21/2018 2,772,238

12/24/2018 455,379

12/26/2018 724,458

12/27/2018 956,356

12/28/2018 2,307,726

12/31/2018 677,770

1/2/2019 1,528,356

1/3/2019 912,315

1/4/2019 756,023

1/7/2019 636,005

1/8/2019 653,152

1/9/2019 5,049,905

1/10/2019 3,983,075

1/11/2019 18,315,260

Source: Virtu

Announcement

(after close)

Rebalance

13

Opportunity

• Liquidity

• Alpha

14

Opportunity

• How to participate?

• Trade the close:

MOC and LOC

Liquidity

Source: Virtu

2.2

2.25

2.3

2.35

2.4

2.45

2.5

2.55

2.6

2.65

0

5,000,000

10,000,000

15,000,000

20,000,000

25,000,000

30,000,000

35,000,000

40,000,000

9:30AM

10:00AM

10:45AM

11:30AM

12:15PM

1:00PM

1:45PM

2:30PM

3:15PM

4:00PM

PriceVo

lum

e

SBGL on Dec 21, 2018

14.6

14.7

14.8

14.9

15

15.1

15.2

15.3

15.4

0

2,000,000

4,000,000

6,000,000

8,000,000

10,000,000

12,000,000

14,000,000

9:30AM

10:00AM

10:45AM

11:30AM

12:15PM

1:00PM

1:45PM

2:30PM

3:15PM

4:00PM

Price

Volu

me

NEO on Jan 11, 2019

15

Opportunity

• Indices are constructed using strict, rules-based methodology

• Possible to predict index changes in advance

• Prepositioning early can provide alpha

Alpha

16

Opportunity

• Prepositioning ahead of June Russell Reconstitution

Alpha

Source: Virtu

-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

1/2

/20

18

2/1

/20

18

3/3

/20

18

4/2

/20

18

5/2

/20

18

6/1

/20

18

2018 - Russell 2000 - Projected Adds v Deletes

Adds Deletes

17

Opportunity

• Energy names in 2017 weighed on the adds

Alpha

Source: Virtu

-25%

-20%

-15%

-10%

-5%

0%

5%

10%

15%

1/3

/20

17

2/2

/20

17

3/4

/20

17

4/3

/20

17

5/3

/20

17

6/2

/20

17

2017 - Russell 2000 - Projected Adds v Deletes

Adds Deletes

18

Opportunity

Performance not always in the direction you expect

Alpha

Source: Virtu

-1.00%

-0.80%

-0.60%

-0.40%

-0.20%

0.00%

0.20%

0.40%

0.60%

0.80%

1.00%

MSCI US Adds v Deletes – Nov 30

Adds Deletes

-12.00%

-10.00%

-8.00%

-6.00%

-4.00%

-2.00%

0.00%

2.00%

4.00%

MSCI U.S. Adds v Deletes –Announcement to Rebalance

Adds Deletes

19

Upcoming Index Rebalances

• February 28–MSCI Rebalance

• March 15–S&P, FTSE, MVIS, Russell IPO additions

• May 31–MSCI Rebalance

• June 21–S&P, FTSE, MVIS, Russell IPO additions

• June 28– Annual Russell Reconstitution

• Projecting more than 190 constituent changes

20

Noteworthy Index Events

• March 15 – Saudi Arabia added to FTSE

• May 31 – Saudi Arabia and Argentina ADRs added to MSCI

• June 21 – Partial inclusion of China A shares to FTSE

21

Contact

Chris Escobar New York City

[email protected] Ɩ (212) 444-6467

Ivan Cajic Toronto

[email protected] Ɩ (416) 874-0844

22

Disclaimer

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