The Evolution of Institutional ETF Use Cases



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The Evolution of Institutional ETF Use Cases

Over the last 25 years, ETFs have exposed millions of U.S. investors to low-cost investments. Yet ETFs go far beyond low-cost and broad exposure. Institutional investors use ETFs for many functions, from bond sourcing to complementing derivatives.

In this infographic from iShares, we show the evolution of ETF use cases over several decades. It’s the fourth in a five-part series covering key insights from the ETF Snapshot, a comprehensive report on how institutional investors manage volatility.

How Have ETF Use Cases Evolved Over Time?

1993: The first U.S. ETF launches

Before: Investors looked to individual stocks or mutual funds to create a diversified portfolio.

After: When the first S&P 500 ETF was launched in the U.S. in 1993, exposure to a broad market became possible with a single security, removing several barriers to entry.

1996: First international ETF launches

Before: Typically, investors used foreign exchanges or depository receipts to gain exposure to international markets. The challenges included additional costs, tax implications, research needs, and additional currency risks.

After: With the first international ETF in the mid-1990s, diversification was possible through broad-based foreign indices.

2002: First bond ETF launches

Before: Investors relied exclusively on a network of bank or broker inter dealers.

After: In a single security, investors could purchase a diversified basket of bonds. The result was typically more efficient trading and tighter bid-ask spreads.

2005: First sustainable ETF launches

Before: Socially responsible mutual funds emerged in the 1980s, screening out weapons, gambling, tobacco, and other categories. Often, mutual funds tracked the Domini Social Index, made of mostly 400 large-cap U.S. stocks.

After: With the launch of the first sustainable ETF, investors have a greater variety of sustainable investment options. This paves the way for hundreds of ESG ETFs to follow in the next 15 years.

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Today: Institutional ETF Use Cases

Before, cash and a variety of vehicles were used across investment strategies. The problem is that cash drag, lack of transparency, and poor liquidity can hurt performance.

According to an Institutional Investor report published in 2021 based on a survey of 766 decision makers, many institutions are using ETFs to overcome these challenges today:

1. Bonds

When bond markets faced severe bottlenecks during COVID-19, 54% of institutions utilized bond ETFs to price, source, and transact bonds.

2. Derivatives

During the peak volatility of 2020, 52% of institutional investor respondents used ETFs as a complement or replacement for derivatives, according to the survey.

3. Rebalancing

70% used ETFs to rebalance following historic levels of volatility.

4. Multi-asset strategies

65% of asset managers use ETFs as a part of their multi-asset strategies.

5. Tactical adjustments

Six in ten institutions use ETFs for targeting market exposures.

6. Manager transitions

When firms are transitioning to a new manager, 32% use ETFs.

7. Liability-driven investment strategy (LDI)

73% of insurance and pension funds used ETFs in their liability-driven investment strategy, which requires having enough assets to cover liabilities, both current and future.

Nature of Design

Historically, ETFs have offered a gateway to more efficient markets. Because of the transparency and flexibility of ETFs, institutions continue to find creative ways to use them.

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