Wall Street asset managers are betting on actively managed exchange-traded funds to help grow their revenue and protect their margins, but the space is shaping up differently than the traditional stock-picking business. ETFs have traditionally been associated with low-cost passive management, and the vast majority of money in the space is held by those vanilla funds. But through November, active ETFs had accounted for 27% of net inflows and 77% of new launches in 2024, according to JPMorgan Asset Management. Many industry experts point to a 2019 rule change from the U.S. Securities and Exchange Commission as the start of this shift. As active management has proven to be viable in the ETF wrapper, asset managers have been launching their own ETF businesses or converting their mutual funds into the newer wrapper. "ETF conversions can stem the tide of outflows and attract new capital. So far, 121 active mutual funds have become active ETFs. Two years before converting, the average fund saw $150mn in outflows. After converting, the average fund gained $500mn of inflows," Jared Woodard, ETF strategist at Bank of America, said in a note to clients on Nov. 18. It is difficult to tease out how much of the growth of active funds is new interest versus the continued shift away from mutual funds, where active management was traditionally more popular. Still, if asset managers can find sustainable success with these funds, it could help them preserve some of their fee revenue after years of seeing that driven down by passive competitors. The push into active looks set to continue in 2025. Woodard estimates there are $3 billion worth of mutual fund conversions coming next year, and dozens of asset managers are petitioning the SEC for the ability to add an ETF fund class to their mutual funds. "The market itself is very loudly and very clearly favoring the actively managed strategies in ETF wrappers," said Johan Grahn, head ETF market strategist at Allianz Investment Management. What works in active The rise of active ETFs is not a carbon copy of old-school stock picking. In fact, some of the most successful products are trying to offer something different than just trying to beat the S & P 500. Two of the biggest examples are JPMorgan's equity income products: the Equity Premium Income ETF (JEPI) and the Nasdaq Equity Premium Income ETF (JEPQ) . Those funds have stock-picking components, but their income generation from options trading is a key part of their appeal. Many buffer funds , which continue to grow rapidly from multiple different issuers, also qualify as active. These income and so-called defined outcome products are essentially using derivatives to shrink the possible outcomes for a fund and then sell that extra certainty to investors. "The industry has been looking for ways to challenge passive, to almost no success. And now that you're giving basically passive with alterations, where you can plug and play based off of your goals, it's just been a game changer I think for active," said Matt Collins, head of ETFs at PGIM Investments. There are other types of active stock ETFs that have found success. For example, the iShares U.S. Equity Factor Rotation Active ETF (DYNF) is the most popular fund this year by inflows, raking in more than $11 billion, per FactSet. The ETF is designed to identify and capture trends in quantitative factors more than just finding long-term winners, and a lot of its success has come as part of model portfolios for BlackRock where it can serve as a complement for core passive funds, not necessarily a full replacement. "The most successful active conversions have offered differentiated access to markets or strategies with fewer ETF competitors, including 'quantamental' equity, high-yield fixed income, thematic funds, and options strategies," Woodard wrote. Potential growth areas The types of active ETFs that work are important to fund issuers because strategies that are harder to replicate can generate higher fees and avoid the "race to the bottom" seen among passive funds. One area where Wall Street sees a lot of potential for active ETFs is fixed income, which has lagged behind equities in the shift to ETFs. Jon Maier, chief ETF strategist at JPMorgan Asset Management, said the complexity of bond investing and the structure of the old mutual fund world suggests active has plenty of room to grow. "The overall fixed income market is probably 75% active. But the ETF space is not — it's largely passive," Maier said. One success story in active fixed income this year is the Janus Henderson AAA CLO ETF (JAAA) , which has brought in about $11 billion this year, according to FactSet. The fund's year-to-date total return was 7.3% through Dec. 26, well ahead of broad bond market indexes. The artificial intelligence trade is another area where some see an opportunity for active stock picking, since the trend does not fit neatly into any existing sector buckets and is expected to change as technology continues to develop. One fund finding some success in this area is the AB Disruptors ETF (FWD) , which has Nvidia and Vistra Corp . among its top holdings. The fund has outperformed the Nasdaq 100 in 2024 and brought in more than $200 million of inflows. "I think what folks find attractive about that particular exposure is that it doesn't just drill down into one particular theme," said Noel Archard, global head of ETFs at AllianceBernstein. — CNBC's Michael Bloom contributed reporting.
