Investment managers could unlock a US$11 trillion market opportunity through active ETF growth
More investors are flocking to active exchange-traded funds and away from mutual funds, signaling the continuation of this fundamental shift
Imagine you’re a prospector during the Gold Rush, standing at the edge of a vast, untapped goldmine. You’ve heard the whispers and seen the signs—this is where fortunes are made. In the world of investments, active exchange-traded funds (ETFs) may be that goldmine. Active ETFs can offer a blend of active fund management with all the benefits of an ETF structure: transparency, flexibility, tax efficiency, and lower costs. Just like those early prospectors, investment managers are creating active ETFs, driving their numbers up from just 108 in 2014 to 1,629 in 2024.1 And the opportunity only appears to be getting bigger.
Deloitte’s Center for Financial Services predicts assets under management (AUM) for active ETFs in the United States to grow from US$856 billion in 2024 to US$11 trillion by the end of 2035, a 13x increase (figure 1)(see “About this prediction”).2 By then, active ETF AUM is expected to account for 27% of total ETF AUM and 17% of total open-ended long-term fund AUM (figure 2).3 Are investment management firms ready to dig in?
What’s contributing to active ETF growth across channels?
One driver behind the growth of actively managed ETFs is a shift in investor action away from mutual funds and toward the ETF structure. Between 2021 and 2023, 460 net-new active ETFs were launched, whereas the number of active mutual funds decreased by 260 during the same period.4 Long-term mutual funds in the United States experienced a net outflow of US$2.9 trillion over the past decade, while ETFs saw net inflows of US$4.5 trillion during the same period.5 Although passive ETFs attracted the majority of these net inflows, active ETF inflows grew at a faster rate from a smaller base. Active ETF net inflows constituted about 26% of total ETF net inflows in 2024, compared to just 1% a decade ago.6 As investor awareness and performance data regarding active ETFs becomes more widespread, it is likely that demand and flows into active ETFs will continue to rise.
As investor awareness and performance data regarding active ETFs becomes more widespread, it is likely that demand and flows into active ETFs will continue to rise.
Moreover, this trend of net outflows from mutual funds and inflows into ETFs is expected to persist, in part, because ETFs are generally available at lower expense ratios compared to mutual funds with similar mandates. This expense ratio gap is more pronounced for actively managed funds than passively managed ones. On average, actively managed equity and bond ETFs have expense ratios of 22 basis points and 11 basis points lower than their respective actively managed mutual fund counterparts.7 One area where ETFs have not yet been widely adopted is the US defined contribution (DC) plan, which has more than US$5 trillion invested in mutual funds.8 Despite this, active mutual funds experienced substantial net outflows, totaling US$4.0 trillion over the last decade.9
ETFs are anticipated to maintain lower expense ratios because they trade on exchanges and incur fewer administrative, marketing, and distribution costs compared to mutual funds. This may result in increasing demand for actively managed ETFs as some investors move away from active mutual funds and seek other investment options with active management capabilities.
Active ETF adoption is projected to increase across most institutional and retail investor channels, except for DC plans. ETFs are not ideal for DC plans due to their current infrastructure, which only supports mutual fund mechanisms like end-of-day net asset value and other distribution arrangements.10 Their existing recordkeeping systems are not equipped to manage intraday trading and fractional shares available by ETFs.11 However, DC plan providers will likely continue to search for efficiencies in their current infrastructure, either through in-house efforts or third-party relationships, as they face ongoing fee pressure.12 AI will likely continue to play an important role in helping firms modernize their infrastructure.13 These technological improvements, along with other advancements, are likely to create an environment that is more conducive to including ETFs in DC plans in the near future. Although these advancements may facilitate ETF inclusion, the adoption levels in DC plans are expected to remain lower compared to other investor channels.
Strategies and considerations to help expand ETF offerings
Investment managers may need to reconsider their product mix to capture the increasing share of fund flows toward ETFs. Out of the top 50 investment management firms, 34 have already launched active ETFs.14 Firms that offer a diverse range of ETF options, particularly in fast-growing subsegments such as active ETFs, are likely to experience significant growth in fund flow.
Firms can consider the following strategies to expand active ETF offerings: They can launch new active ETFs, and they can convert existing active mutual funds into ETFs.15 Another strategy may emerge if the US Securities and Exchange Commission (SEC) approves pending applications to allow ETFs as a share class for existing active mutual funds.16 Firms considering this third strategy should prepare for rapid changes dependent on an SEC decision. ETF operations differ from those of mutual funds regardless of the ETF strategy chosen, so preparing for organizational change may be helpful.
To help prepare their firms for ETF growth opportunities, investment management leaders can explore these considerations:
Developing a robust authorized participant network. The creation and redemption mechanism, unique to the ETF structure, relies on authorized participants (APs). As firms expand their ETF offerings, they will likely have to cultivate a strong network of APs to confirm liquidity and minimize mispricing between the net asset value and the quoted price. This is often important for active ETFs, which may require more frequent portfolio adjustments; this can make the relationship with APs even more critical (see sidebar, “Choosing the right APs will likely be critical to ETF fund growth”).
“Regardless of the ETF launch strategy, APs, seasoned ETF talent, and a long-term strategic plan will likely be important components for success,” Paul Kraft, investment management marketplace excellence leader, Deloitte & Touche LLP, explains.
Choosing the right APs will likely be critical to ETF fund growth
Each AP typically specializes in a particular region or asset category, so selecting APs based on specific needs is important. Active ETF issuers may want to consider collaborating with APs capable of handling a diverse array of stocks, as active portfolios involve a higher number of discretionary transactions, compared to the more predictable rebalancing required by passive portfolios. Additionally, selected APs should be able to make changes in inventory based on the issuer’s requirements. Furthermore, lead market makers may prefer certain APs due to past collaborations and transaction efficiency. IM firms should assess these relationships when selecting their APs to help maintain adequate liquidity and trading volumes.
Active ETF issuers should also account for the trading limitations of APs, as delays in creation or redemption can result in missed market opportunities intended to be captured through active management.17 APs are unlikely to engage in arbitrage if the potential gains do not outweigh the associated costs, making a diverse network of APs with different costs and features important to reduce ETF mispricing. Recent studies highlight that a concentration exists within the AP network: For all US-listed ETFs, the average share of gross creation and redemptions by the top three APs is 85% and above for equity and bond ETFs.18 Therefore, developing a comprehensive and flexible AP network can help with the success and accuracy of ETF pricing.
Selecting custodians with scalable capabilities. Custodian capabilities should also be scalable to manage growing fund flows into active ETFs and, consequently, the higher volumes of AP transactions. Furthermore, some countries are already experimenting with T+0 settlement systems; it’s anticipated that the United States will soon follow suit.19 Therefore, firms should consider custodians that have technological infrastructures and processes in place to help facilitate a seamless transition to shorter settlement cycles.
Developing a comprehensive marketing and distribution plan. Mutual funds and ETFs utilize distinct sales channels. Mutual funds are typically sold through broker-dealers, financial advisers, and retirement plan providers, whereas ETFs are distributed through brokerage platforms, robo-advisers, and fee-based advisers. Firms can enhance their ETFs’ accessibility and cost-effectiveness by negotiating platform fees and ensuring commission-free trades on brokerage platforms. Collaborating with robo-adviser companies to integrate data on pricing, performance, and portfolio analytics will likely facilitate the inclusion of ETFs in their model portfolios, potentially increasing fund flows. Additional marketing efforts may include digital marketing campaigns, platform advertisements, and co-branded educational content.
Developing talent that specializes in ETFs. As the product mix could increasingly favor ETFs, firms should look to cultivate talent with experience in this area to efficiently manage, market, and distribute these funds. Marketing and distribution specialists are expected to possess not only strong sales skills but also in-depth knowledge of ETFs to aid in the development of marketing and educational materials. Recent research shows that advisers highly value competitive product information and access to product specialists.20 On the operational front, given the complexities involved, ETF operation specialists should have competencies in portfolio management, liquidity management, compliance, and trading.21 Some major firms planning to expand their ETF offerings have already begun to pursue this approach.22 As ETFs gain further traction, the competition to attract and retain talent with specialized skill sets will likely continue to intensify.
Over the next few years, active ETFs will likely continue to be the fastest-growing product category within the traditional investment management product landscape in the United States. As investors continue to shift from mutual funds to ETFs, firms aiming to grow and capture this increasing market share may need to develop the necessary infrastructure first. Those firms that adopt a long-term perspective, bring in specialized ETF talent, and form strong relationships with active ETF key stakeholders, such as APs and distribution channel decision-makers, can not only navigate the initial stages of growth but also achieve scalability and sustained success.
About this prediction
We have projected the inflows and outflows of active and passive mutual funds as a percentage of AUM. Our analysis is grounded in long-term historical trends, which indicate that overall inflows are gradually decreasing while outflows are accelerating. The inflows and outflows of active mutual funds exhibit more significant changes compared to those of passive mutual funds.
This trend is anticipated to continue due to the advantages offered by products such as ETFs, including lower costs, greater flexibility, higher transparency, and tax benefits. As investors become more aware of active ETFs and more fund options and performance histories become available, a growing proportion of funds flowing out of mutual funds is expected to be redirected toward active ETFs. Similarly, a small but growing portion of passive ETF investors is likely to switch to active ETFs over time.
ETFs also receive some inflows organically, which are not derived from mutual fund outflows. The net inflows (inflows minus outflows) to mutual funds and ETFs, combined with the annual growth rate, enable us to determine the AUM figures for active ETFs, passive ETFs, active mutual funds, and passive mutual funds.
This article contains general information and predictions only and Deloitte is not, by means of this article, rendering accounting, business, financial, investment, legal, tax, or other professional advice or services. This article is not a substitute for such professional advice or services, nor should it be used as a basis for any decision or action that may affect your business. Before making any decision or taking any action that may affect your business, you should consult a qualified professional advisor.
Deloitte shall not be responsible for any loss sustained by any person who relies on this article.