ETF investors seek yield amid uncertainty

With high interest rates and market uncertainty hanging around to start the year, investors will continue to favour cash, covered-call, dividend and fixed-income products, CIBC’s director of ETF strategy says.

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One of the fastest hiking cycles in history, coupled with a risk-off environment, led investors to favour safer investment products and ETFs offering yield last year, said David Stephenson, director, ETF strategy with CIBC Asset Management.

“The need to preserve capital informed many investor decisions,” he said, judging by record-high flows into high-interest savings account ETFs and cash-alternative products.

“If you add all that up, it’s no surprise investor preferences were focused on cash, ultra-short and short duration, as well as defensive equity, such as dividend funds and covered calls.”

While covered-call ETFs have been around since 2010, one of their features is to cap upside in exchange for income, making them better suited for bear than bull markets. As a result, flows really accelerated last year, Stephenson said. Option-based ETFs, most of which use a covered-call strategy, had inflows of $4.4 billion last year, their highest ever, according to National Bank Financial.

Cash products also had a banner year, more than doubling their assets to $15 billion.

At the end of 2021, high-interest savings account ETFs were yielding 72 basis points on average, Stephenson said, compared to almost 5% today.

“Given there are still uncertainties lurking in the market … I do expect these products to continue to attract investor interest,” he said. While ETFs suffered outflows of $342 million to start the year, flows into cash-alternative ETFs remained strong at $641 million, according to National Bank.

Stephenson said he expects the success of income-focused products such as cash and covered-call ETFs to be reflected in new product launches this year.

He also expects the number of active ETFs should continue to grow. These products now outnumber passive ETFs, he said, and account for about 30% of total ETF assets under management in Canada.

“Many investors use a combination of indexing and active strategies to build resilient portfolios,” he said, pointing to a trend to personalize portfolios using thematic and ESG ETFs.

National Bank pointed to a “barbell approach” becoming more popular, whereby investors allocate primarily to low-cost passive products while adding “higher-risk and higher-cost ETFs” such as covered-call, dividend and ESG funds.

Stephenson said he expects assets in ESG products to increase significantly in the years ahead, given the boom in product launches.

“There are a lot of products compared to today’s asset base, but I think manufacturers are taking a long-term view here, and the market will ultimately decide who the winners are,” he said, with younger investors contributing to that growth.

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