But ETF sponsors are working on ways to circumvent that. "There's been a lot of discussion and active work going on in the industry on this topic," Hammond says. "There are ways where you can take a traditional 40 Act mutual fund and convert it in its entirety into an ETF."
More Active
As part of the expected trend of more mutual fund companies entering the ETF space, McKinsey also expects to see a greater number of actively-managed ETFs. Pimco's Total Return ETF made a big splash in that the area, joining such players as AdvisorShares, Columbia Management Investment Advisers, Wisdom Tree and PowerShares.
McKinsey sees active ETFs evolving from "smart beta" products based on so-called intelligent indexes to pure actively-managed products with human discretion generating alpha.
Initially, the trend toward active ETFs has been on the fixed income side where there's less concern about protecting an asset manager's trading strategies in transparent ETF vehicles against front-running by institutional traders.
Not A Smooth Ride
The ETF industry's phenomenal growth is starting to hit some roadblocks. Product proliferation has created an excess number of passive products and too many narrowly-defined niche products that haven't gained traction with investors, causing a dramatic uptick in fund closures.
According to McKinsey, just 10 ETFs closed between 2000 and 2007. That number jumped to more than 150 in the following three years, and the number of fund closures keep coming. "I think there's a natural limit beyond which some funds are getting so granular and are appealing to such a narrow base of addressable assets that they're probably uneconomical," Hammond says.
But Hammond expects ETF providers will roll out new offerings that will have greater investor appeal and generate more sustainable asset levels, particularly as mutual fund companies enter space. And that should more than overcome fund closures.
And Hammond says the increased use of ETFs in defined contribution plans could be a growth catalyst. "Some companies are talking about introducing all-ETF defined contribution platforms," he notes.
--Jeff Schlegel