The Hagans View: Reports of an ETF Issuance Bubble Have Been Greatly Exaggerated

by on December 16, 2009

I read The Reformed Broker‘s recent post, ETF Inflation and Brown’s Law of Wall Street Product Creation, with some interest, as we cover so many new ETF launches here at ETFdb. By the way, although you could call this post a rebuttal to that link, I do have a lot of respect for The Reformed Broker–it’s in my Google Reader subscriptions–and recommend it as daily reading. But in this case, I don’t agree with the opinion of Joshua Brown, who pokes fun at the ETF issuances this year by referencing Brown’s Law of Wall Street Product Creation: “Wall Street products decline in quality, popularity and necessity with each iteration after the original.”

Now, I can’t argue with the overall sentiment of Brown’s Law. But I don’t think it’s universally applicable: did mutual funds decline in popularity after their initial wave of popularity? And can we really conclude that ETF issuances are overdone, when, until recently, our ETF choices for exposure to the investment-grade corporate bond market–a huge sector of a huge asset class–total a whopping one single fund?

The Window Is Still Open

The Hagans ViewA few months ago, our senior analyst, Michael Johnston penned an article titled 10 ETFs That Don’t Exist, But Should. In my opinion, it should be required reading for any executive who works at an ETF issuer not named iShares, Vanguard or State Street. But it should also be required reading for anyone who thinks that every ETF that “should” exist, already does. In the article, Johnston references the fact that the world’s 18th largest economy did not yet have its own ETF! Since the piece was published, Van Eck did in fact, launch a Poland ETF (PLND). But that was just last month. Per Mr. Johnston’s article, and including some of my own suggestions, here are various other ETFs still on my Christmas list for 2010:

  1. an alternative inflation-protected ETF (even though we all trust the CPI numbers, right? Right?!)
  2. an Egypt ETF
  3. an Ireland ETF
  4. various non-USD currency ETFs
  5. a global automotive sector equity ETFs
  6. about 300 more bond ETFs, especially by fleshing out foreign and corporate bond ETF offerings with more varied maturity and credit rating options.

Doesn’t Capitalism Mean the Market Will Decide?

I believe the wish-list above is rather obvious, but others might disagree with it. What no one can disagree with is the fact that several recent issuances have amassed huge assets in a matter of weeks: see how quickly the new PIMCO bond ETFs have climbed up in the “rankings.” In other words, the market has responded with Hagans’ Law of ETF Issuance: “Some New ETF Issuances Will Amass Assets and Fulfill an Investor Need, and Some Won’t, It Depends on How Good the Idea Behind the ETF Was.”

Some competitors win, and some competitors lose, but all the competition in terms of issuance is surely good for investors in the long run. Many of the most popular ETFs in terms of net assets have relatively high expense ratios. High expense ratio ETFs can cut it in a world of 100 ETFs–or even 500 ETFs–but the popular ETFs in 2015 are, by and large, going to have low expense ratios (at least, low according to the standards of each one’s asset class). Increased competition in terms of issuance is accelerating this trend. And low expense ratios are important: they’re a major reason why ETFs are so popular, and they’re one of the very few things we investors can control to improve our returns.

The HealthShares Metabolic-Endocrine Disorders ETF Was Just a Bad Idea

Now, one fact I would definitely agree with, is that many ETF issuances have not been well conceived. But that problem will work itself out as funds close due to lack of assets and interest. So I implore you: don’t let the ignoble fate of the HealthShares Metabolic-Endocrine Disorders ETF crowd out the glaring need for more investment-grade corporate bond ETF options. We’re hundreds–or even thousands–of ETFs away from the point of an actual “issuance bubble.”

Disclosure: Long LQD.