Assets in U.S.-traded ETFs rose 28% in 2010--in a market that is still largely dominated by three fund providers, according to a report by Standard & Poor's.

The nation's ETF assets rose to nearly $1 trillion last year, increasing by about $220 billion, according to S&P. About half of that increase was due to net cash flow into ETFs and the other half from appreciation, according to the report.

"In the year ahead, we expect that exchange-traded funds will continue to gain market share from mutual funds," S&P equity analyst Tom Graves wrote in the report. "We think growth in the ETF market adds to pressure on mutual fund companies and other financial service companies to offer ETF products."

Even with the growth, however, the report noted that the ETF market remains relatively small compared to the mutual fund industry, which benefits from a wider variety of products and active management styles that strive for index-beating returns. ETFs have introduced their own actively managed funds over the past several years, but this segment of the ETF market has been slow to gain traction, according to the report. "Inhibiting factors likely include fund manager reluctance to disclose trading activity, and potential higher costs of active ETFs," Graves wrote.

A Top-Heavy Market

The nation's ETF market continues to be dominated by the top three producers, but smaller players are making inroads, according to the report.

The top three U.S. ETF producers hold 84% market share, with BlackRock finishing 2010 with a leading share of 45%, followed by State Street at 24% and Vanguard at 15%, according to S&P. Vanguard alone accounted for about 35% of the new net cash flow in the ETF industry last year, the report noted. "We think that investors were attracted, in part, by relatively low expense ratios for Vanguard ETFs," Graves wrote.

Despite the dominance of a handful of producers, smaller players have been able to move into the ETF marketplace, according to S&P. The report noted that four providers who had virtually no presence in the ETF market two years ago--ETF Securities, Schwab, Pimco and Global X--had total ETF assets of about $9.7 billion by the end of 2010. That represented a seven-fold increase from a year earlier.

"Although still accounting for a combined market share of only 6%, we think the success of some new ETF providers will provide encouragement for other prospective entrants," Graves wrote.