It’s been another banner year for exchange-traded funds, and it’s come at the expense of mutual funds. Through November, U.S. equity mutual funds saw estimated outflows of nearly $130 billion versus inflows of $55 billion for U.S. equity ETFs.

Low costs, transparency of portfolio holdings, and the multiple options investors have for gaining exposure to key investment themes and broad markets have made ETFs attractive alternatives to mutual funds as well as individual stocks, noted Todd Rosenbluth, S&P Capital IQ ETF Analyst, in a recent report on ETF trends.

The ETF industry is on a pace to match 2008’s record-setting year, according to Morningstar, with total inflows of $160 billion through the end of November. Investors now have $1.45 trillion in U.S. exchange-traded products versus $12.7 trillion in mutual funds.

Key trends in the U.S. equity ETF space include strong flows into diversified large-cap, REIT and energy funds. Rosenbluth, who spoke during a webinar accompanying the release of the ETF trends report and in a subsequent interview, said all three categories are noted for their defensive characteristics and their ability to produce income. And on the international stock side, emerging market ETFs have attracted investor dollars.

Money Flows
Among the 72 equity ETFs launched through mid-October 2012, some of the most successful have been emerging markets funds such as the iShares Core MSCI Emerging Markets ETF (IEMG), which has gathered $120 million in assets since its October 18 launch; PowerShares S&P Emerging Markets Low Volatility Portfolio (EELV), which has $80 million in assets and expands on the firm’s successful PowerShares S&P 500 Low Volatility Portfolio (SPLV) strategy; and iShares Emerging Markets Dividend (DVYE), with $54 million in assets.

Low volatility and dividends have been attractive themes for equity ETF providers, Rosenbluth said.

Fixed income ETFs have also been strong this year, with $52 billion of inflows through November. In fact, the most successful ETF launch of 2012 has been the actively managed Pimco Total Return ETF (BOND), which has gathered $3.9 billion in assets since its February launch.

The two other top asset gatherers in the fixed income space are SPDR Barclays Capital Short Term High Yield Bond (SJNK), with $500 million in assets in just eight months, and iShares Aaa-A-rated Corporate Bond (QLTA), with $300 million in assets. Active management and a credit quality focus were key themes among the 36 fixed income ETFs launched in 2012, Rosenbluth said.

A large number of funds went to ETF heaven in 2012, including the FocusShares family of ETFs from Scottrade and all but one of Russell’s 26 ETF offerings. ETF providers have pulled the plug on 101 ETFs so far this year, according to Rosenbluth. That’s up from 28 closures in 2011 and about 50 closures in 2010 and 2009 each.

The number of ETF closures has climbed sharply in recent years as the industry has matured and ETF providers gave up on funds that are not cost effective. And given the launch of many new funds in the past two years and the accompanying price competition, the closure trend is likely to continue in 2013.

“Most investors will not miss any of these funds,” Rosenbluth added.

Expenses Getting Smaller, Smaller, Smaller
Intense price competition is expected among broadly diversified index products. In September, Schwab cut expense ratios on all 15 of its diversified ETFs, and iShares followed suit in October with expense ratio cuts on six of its core ETFs, including iShares Core S&P 500 Index (IVV).

ETF providers are looking to lure new investors into their products and are betting that cheap, broadly diversified funds will prove attractive. Rosenbluth expects pressure on expense ratios to continue in 2013, as more assets move into these products and providers pass along the benefits of increasing scale. 

ETFs will continue to gather assets in 2013 despite all the uncertainty about fiscal policy and the state of the U.S. economy, according to S&P. Areas of growth will include dividend-themed ETFs even though taxes on dividends will probably rise, Rosenbluth said.

Despite talk of higher taxes, dividend focused sectors such as utilities and consumer staples have continued to perform well in recent weeks. “Investors still want yield,” Rosenbluth said, adding that funds that do not focus solely on yield but on companies that consistently raise their dividends––such as Vanguard Dividend Appreciation (VIG)––are particularly attractive.