Passive investing gathers steam but retail investors get a meagre share

The flows, however, are predominantly from corporates, including the Employees' Provident Fund Organisation (EPFO) and High Net Worth Individuals (HNIs).

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“Retail investors remain elusive in this space as a large portion (75 percent) of retail assets are still garnered from the distributor channel. Registered Investment Advisors (RIAs) earn negligible fees in selling ETFs, whereas in equity schemes, the commission rates are upwards of 80 basis points,” the report said.

The surge in demand for passive investment has also come amid a recent SPIVA India report by S&P Dow Jones Indices, showing that 88 percent of actively managed equity funds underperformed the S&P BSE 100 in the year ended December 2022.

To be sure, while active funds have underperformed benchmarks, the returns of ETFs have also been lower than their respective indices, owing to the tracking error.

Retail still a fraction

Experts believe that passive investments are comparatively more attractive than active investments owing to their ease of investing, better liquidity, and lower cost.

According to the Motilal Oswal Financial Services report, retail AUM in ETFs registered a CAGR of 56 percent over FY19-23, to Rs 9,700 crore in FY23.

The growth has been driven by a thrust from online distributors. However, the share of ETFs in total retail AUM is a meagre 2 percent.

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“This is because the Indian retail MF industry is highly dependent on the push model, wherein MFDs play an integral part in distribution. With commissions to distributors on equity schemes being much higher, the preference for distributing ETFs is much lower,” the report added.

The retail segment, too, witnessed a CAGR of 82% in index funds’ AUM over the past four years and is at 1.8 times the AUM in the ETF segment.

Notably, Nippon, being an early entrant in the ETF segment, dominates retail AUM, with around 80% market share as of FY23.

HNIs dominate passives

Per the report, HNI contribution towards ETF assets under management over FY19-FY23 registered a CAGR of 70 percent to touch Rs 34,000 crore in FY23.

“It is pertinent to note that the number of folios for HNIs in ETFs is at just 2 percent of the Equity funds folios, leaving significant headroom for deeper penetration. From a distribution perspective, HNIs are informed investors, and hence, use platforms that allow direct investing into the passive funds,” the report said.

Nippon AMC dominates the assets under management of HNI ETFs with about a 64-percent share, followed by Edelweiss AMC with about 19 percent as of FY23.

Further, among index funds, too, high networth individuals have witnessed an AUM CAGR of 145 percent over the past four years.

EPFO a driving factor

The report showed that the corporate segment accounted for around 91 percent of the total assets under management by ETFs.

Further, the corporate ETF AUM is dominated by T30 cities, accounting for around 99 percent share. T-30 refers to the top 30 geographical locations in India, as per the Securities and Exchange Board of India’s classification. Additionally, within the T30 cities, more than 70 percent of the corporate AUM is through direct channels.

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The ETF market got a major boost in 2015, when the EPFO started investing in stock markets via the ETF route.

“Initially, it was 5 percent of incremental flows and the same was subsequently hiked to 15 percent in 2017. Due to periodic redemptions of ETF units and reinvestment of only 15% of the redemption proceeds in ETFs, the share of equity investments in the total EPF corpus has been growing at a slow pace,” the report said.

As on January 31, 2023, investments by the EPFO in equity amounted to 10 percent of the total proceeds and it is estimated that it may take another 5-6 years for the equity portion of the fund to reach the 15 percent mark.

Notably, as of FY23, corporate ETF assets under management were dominated by SBI AMC with 51 percent share. UTI AMC was next with 14 percent. Edelweiss and Nippon had an 11 percent and 10 percent share, respectively.