The Rise of Active ETFs

Dec 11, 2023

Investors seeking cost savings and targeted allocation are turning to actively managed ETFs to navigate market uncertainty while reaping the benefits of tax efficiency.

Key Takeaways

  • Actively managed ETFs are rising in popularity, offering investors targeted exposure and tax efficient benefits in a volatile market.
  • In addition to tax efficiency, investors are seeking active management in certain asset classes and strategies, such as fixed income and thematic investing.

Exchange-traded funds (ETFs) are a staple in many investors’ portfolios, thanks to their relatively low costs and flexibility. While most ETFs are designed to passively track an index or benchmark, investors are increasingly choosing actively managed ETFs for targeted exposure and tax-efficient benefits in an uncertain market environment.


While actively managed ETFs have existed since 2008, demand for them is rising amid an uncertain economy, with high inflation and interest rates, slowing global growth and questions about a potential U.S. stock selloff. Many investors see the potential for active ETFs to meet specific goals, such as achieving consistent and sustainable income, generating additional yield and protecting against market volatility.


Active ETFs represented $444 billion in assets in October,1 nearly triple the amount in active ETFs in October 2020. There are 1,255 active ETFs2 currently traded on U.S. markets, up from roughly 350 in 2019. While they still comprise a small sliver of the more than $7 trillion ETF market,3 actively managed ETFs grew at a rate of 14% in the first half of 2023, compared to a 3% growth rate for passive ETFs.4


“There are strong inflows into actively managed ETFs, and we’re seeing investor demand for strategy-specific and tax-efficient ETFs that are run with institutional capabilities in an uncertain market,” says Anthony Rochte, Morgan Stanley’s Global Head of ETFs.


Benefits of Active ETFs

Like a mutual fund, an ETF allows investors to easily invest in a bundle of assets like stocks, bonds or other securities. The key difference is that ETFs are traded on stock market exchanges, which allows investors to trade ETFs throughout the day as market prices fluctuate. A mutual fund, on the other hand, is traded at the end of the day based on its calculated net asset value. Benefits of ETFs include:

●       Flexibility: ETFs allow investors to buy and sell throughout the day, providing liquidity while allowing investors to quickly take advantage of real-time news and opportunities.

●       Tax efficiency: ETFs are typically designed to generate fewer capital gains distributions, reducing the number of taxable events passed on to investors.

●       Transparency: Investors can see all of the underlying holdings of an ETF on a daily basis, along with real-time share prices, allowing them to better understand how a specific ETF may impact their overall exposure to specific assets or sectors.

●       Diversification: Investors can use ETFs to quickly gain diversified exposure to different asset classes, sectors, geographies and strategies.

●       Value: Most actively-managed ETFs have lower expense ratios than active mutual funds.


Unlike an ETF designed to replicate the performance of a specific index, active ETFs are controlled by investment managers. They target specific investments within themes, with the goal of beating the performance of passively managed equivalents.


Compared to passive ETFs, actively managed ETFs may offer investors tactical opportunities. For example, in active bond ETFs, investment managers can pick securities based on factors such as interest rate changes, global credit risks, duration or credit quality, and they can determine the size of their positions in these securities using fundamental or quantitative techniques. These portfolio managers aim to outperform passive index funds that follow the composition of benchmarks by finding opportunities amid the complexities and inefficiencies of the bond market, offering investors the potential for income, diversification and liquidity. Other types of active ETFs that are attractive to investors include strategies that focus on equities, which may deliver income via dividend payouts, or mitigate potential losses via options hedging.


“Active ETFs are designed to meet specific investor goals, while empowering active managers to leverage their expertise to capitalize on short-term market movements and long-term trends,” Rochte says. “Plus, investors can benefit from the tax efficiency of the income stream.”


Morgan Stanley Investment Management, with more than $1.4 trillion in assets, offers a suite of investment management solutions and services including mutual funds, separately managed account strategies, alternative investments and ETFs, dedicated to helping our clients achieve their investment goals.

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