Dan Kemp, CIO of the EMEA business at Morningstar Investment Management, has highlighted an array of benefits from the rapid rise of passive investments, although he also warned of risks such as overtrading.
His comments come as exchange-traded products (ETPs) attracted record inflows in the first quarter of 2017, taking in $189.1bn globally and far outpacing the previous record of $137.8bn in Q4 2014.
Kemp (pictured) said although people view the growth of passive investing as a challenge for active managers, particularly in terms of fee pressures, price wars are good for the end investor.
Meanwhile, passive funds' systematic trading in stockmarkets can also create opportunities.
He explained: "This wholesale move to passive funds is actually a good opportunity for active managers. The more money that is chasing some sort of systematic and mechanical portfolio construction process, whether that is index- or factor-based, the more prices should end up being stretched up or down.
"Then there will be more opportunity for active managers to come in and make some genuine returns," he said.
He added those managers that feel challenged and have faced competition from passives are the ones that "charge too much and have too little skill to compete, and should be challenged".
In addition, Kemp said the passives expansion has also allowed discretionary fund managers to really drill down into the subject of fees, and question whether an active manager is adding value over a passive strategy, to the benefit of the end investor as well as advisers.
For example, Morningstar's latest range of risk-rated portfolios, launched with Aviva Investors last year, have an overall fee cap of 50bps.
This means after Morningstar's management charge of 15bps, the portfolio management team have 35bps to spend on fund fees.
Kemp said: "As a result, the majority is held in passives, but we also have the budget to buy a few active funds where we think the manager is outstanding.
"I love this range because it forces the portfolio managers (PMs) to spend every basis point of the clients' fee very carefully."
The Aviva Governed Portfolio range's Moderate Growth portfolio has 69% in passive investments, compared to the team's 21.5%
in the Moderate risk model in the Active fund range.
Kemp said he is now looking at how the group can transfer that fee discipline into its other ranges.
"We are not going to impose the fee cap elsewhere but we want to make sure all the PMs are thinking very carefully about every basis point of fees," he added.
However, a negative Kemp has noted following the growth of passive strategies is overtrading, where investors are turning over their investments too regularly.
"The mistake we see some investors making, and we guard against ourselves, is overtrading passive funds.
"In a way, people are being too active in the way they approach passives. It is that constant temptation to chase recent past performance," he said.
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