TWSE Market Insights

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As of the end of November this year, five international asset management firms – Allianz, Prudential (now E.Sun Asset Management), BlackRock, Morgan, and AllianceBernstein – have launched ETFs in Taiwan. Among them, the active ETFs issued by Allianz and Morgan have already been listed. By early December, a total of 13 actively managed ETFs had reached 530,000 beneficiary accounts, with a total scale exceeding NT$100 billion. On December 4, the Financial Supervisory Commission relaxed the issuance restrictions on “ETF feeder funds.” Currently, active ETFs include products covering Taiwan stocks, overseas stocks, and bonds.

At the end of June this year, S&P Global noted that active equity ETFs that help diversify investments have reached a global scale of US$780 billion. For every novel and eye-catching product, it may be examined from two perspectives: first, what unique value it offers to individual investors; and second, whether its issuance helps channel capital into more productive investments, thereby generating a “wealth effect” that increases disposable income across the entire economy and society.

Portfolio-type products offer common benefits to investors, including:

1. Diversified investments allow investors to easily reduce risks from individual companies or sectors because the ups and downs of various assets offset one another;
2. Compared to investors placing buy and sell orders individually, investment trusts benefit from economies of scale to achieve lower transaction costs;
3. There is hardly any restrictions on minimum investment amounts; and 4. Investment trusts maintain transaction records on behalf of investors.

Portfolio-based products also benefit the entire economy and society in the following ways:

1. Even for those unwilling to bear high risks, diversification helps spread their investment risk, allowing them to indirectly channel funds into high-risk, high-economic-and-social-benefit investments.
2. Even for those unsuited to investing in low-liquidity (less easily convertible) assets, as long as their ETFs and traditional mutual funds maintain high trading volumes, they can still inject capital into illiquid stocks.

The ways in which ETFs can provide additional benefits to investors compared with traditional mutual funds include:

1. ETFs (including active ETFs) are required to disclose their full portfolio holdings daily, in contrast to traditional mutual funds, which only disclose holdings exceeding 1% at the end of each quarter and the top 10 holdings at the end of each month. The latter appears on the surface to “focus on the big and let go of the small,” simplifying the amount of information disclosed. However, because holdings are revealed only at specific points in time, there exist concerns that investors might complain that “recently rising stocks weren’t bought, and declining ones are still held.” And they’re still holding the losers!” Moreover, firms may engage in window dressing – purchasing already surging stocks at inflated prices and selling already plunging stocks at low prices – just before their holdings are disclosed, thereby jeopardizing investment gains and inflating transaction costs.
2. Investors in open-end mutual funds subscribe or redeem beneficiary certificates with the asset management company based on the fund’s net asset value at the market close each day. In contrast, ETF investors can place orders at market prices anytime during trading hours and even engage in intraday trading, giving them greater flexibility in timing and better control over execution prices.

Passive ETFs are designed to track specific indices; as such, investment trust companies do not actively seek gains or avoid risks. Moreover, the issuance of certain thematic passive ETFs caters to market fads. However, as these themes gradually lose favor, their large-cap constituents may no longer deliver significant returns, nor do they necessarily merit continued large-scale capital injection from a socio-economic perspective. In contrast, actively managed ETFs aim to outperform benchmarks. Their managers actively engage in timing and stock selection, wielding significant discretion to adjust investment weightings. As for whether active investing helps generate alpha (abnormal rate of return), empirical results in certain scenarios suggest otherwise. However, in contexts such as market bubbles, panics, low market depth, or small-cap stocks – where irrational market reactions may prevail – experienced and dedicated professional managers may be better positioned to seize profit opportunities. This provides a solid foundation for proponents of active investing, such as Warren Buffett.

On the surface, active ETFs carry greater non-systematic risk. However, as investors hold a large number of active ETFs with differing investment styles, the risks associated with any single style or stock selection are mitigated through “active investment diversification.” Financial experts often recommend “building a portfolio with stable, low-volatility assets as the core and high-growth, high-risk assets as satellites, with the former significantly exceeding half the weight and the latter significantly below half.” However, for portfolios that are already moderately to highly diversified (e.g., holding ten or more active ETFs with distinct styles), there is no need to deliberately increase passive or index fund allocations to nearly 80% (reducing active holdings to just 20%) to “fortify the core.” For those concentrated in just one or two active ETFs – which typically carry higher fees and more distinct themes – considering an expert core-satellite asset allocation strategy is advisable.