Exchange-traded funds had another strong year in 2024. Strong markets and constant inflows have helped ETFs reach new heights. For the first time, ETFs attracted $1.1 trillion in new capital, pushing assets to more than $10 trillion. But beneath these headlines are several other important emerging trends.
- Bitcoin continues to fall, sparking record interest in the newly launched Spot Bitcoin ETF.
- Spot Ethereum ETFs also started trading, albeit with less fanfare.
- Fund providers piled up applications for the ETF share class. A verdict is expected in 2025.
- Active ETFs continued to rise as competitors for the position of asset managers.
- Private market ETFs are racing toward reality.
- ETFs that cannot be lowered.
These are just a few of the many notable ETF stories in 2024, and 2025 is sure to be full of surprises. Just like this time last year, each member of Morningstar's ETF research team offers predictions for what ETF investors can expect in 2025.
Here are our predictions for 2025, from most likely to least likely. (Scroll to the bottom of the page to see what the 2024 predictions look like.)
Prediction 1: Active ETFs will outnumber passive ETFs.
Historically, exchange-traded funds have focused on index strategies. While most ETF funds are still in index funds, actively managed ETFs have grown significantly over the past five years.
The SEC has made it easier to obtain approval for ETFs, allowing widespread use of custom creation/redemption baskets in 2019. Custom baskets allow active managers to buy and sell groups of securities that do not exactly match the holdings of an ETF, giving active managers new portfolio management tools and the flexibility to negotiate baskets with market makers. The result has been lower transaction costs, improved tax efficiency for ETFs, and tighter bid-to-bid spreads for ETF investors. Soon after, active ETFs flooded the market, and the number continues to grow.
The gap between the number of active and passive ETFs has narrowed over the years. Active ETFs added 424 more funds to their ranks than passive ETFs in 2024, narrowing the gap further. If this trend continues, it means the 200 fund's lead in passive ETFs may not last long. I predict this changing of the guard will occur in 2025.
—Brendan McCann
Prediction 2: ETF closes remain high.
I'm doubling down on last year's predictions. ETFs should continue to close at a high rate. I predict that the number of closures will exceed 187 in 2024. Only two other years had more closures: 2020 (190) and 2023 (226).
ETF providers launched a record 726 new ETFs in 2024. With few exceptions, these newly minted ETFs are complex, risky, expensive, and novel that don't perform well over the long term. Investors don't need most of them.
In other words, U.S. exchanges are drowning in ETFs. More than 3,900 stocks traded on U.S. exchanges as of the end of 2024. A lot of that applies to The Walking Dead. About 1,100 people had assets of $50 million or less, and more than 1,500 had assets of less than $100 million. These ETFs are prime candidates for closure. At some point, the cost of providing these ETFs exceeds the income they generate. Sooner or later they will have to wave the white flag.
—Daniel Sotilov
Prediction 3: Individual stock ETFs will increase.
These days, anything can be an ETF. Want double-leveraged MicroStrategy MSTR exposure? There's an ETF for that. Covered call on C3.ai AI stock? Of course, why not? Behind these insane ETFs is a broader trend of ETFs as trading tools.
Single-stock ETFs are inappropriate for almost all investors. These are not long-term investments, but trading tools that should be held for minutes or hours, if at all. A company's stock determines the performance of an ETF by leveraging derivatives on that stock, shorting it, and squeezing more revenue out of it. Investor curiosity is growing.
Single-stock ETFs package one or more option trades into an easy-to-buy product. Each single-stock ETF has a myriad of subtle risks. Still, they continue to proliferate as asset managers cling to these lucrative products. There were 103 single-stock ETFs available for purchase at the end of 2024. This is an increase from 51 people a year ago. Stocks related to Nvidia NVDA stock and Tesla TSLA stock are the most popular.
In a situation dominated by low-cost publishers like Vanguard, timid competitors pounce on the remaining open space in an attempt to gain market share. With thousands of stocks and nearly infinite option combinations, I expect the number of single-stock ETFs to double in 2025 as smaller issuers fill the shelves. Few of these ETFs have sustained success, but traders are spoiled for choice.
—Zachary Evens
Prediction 4: Vanguard's VOO will overtake State Street's SPY to become the world's largest ETF
SPDR S&P 500 ETF Trust SPY has been at the top of the ETF market since its inception in 1993. Although it remains the most traded ETF in the world, its lead in assets under management has waned in recent years. Thanks to strong market returns, SPY maintains pole position with $624 billion in net assets, leading Vanguard S&P 500 ETF VOO by $40 billion at the end of 2024.
There is only so much an S&P 500 index fund can do to gain an advantage over its peers. The drawbacks are SPY's trust structure and high fees. Losing the ability to participate in securities lending also eliminates increased income for investors. As a result, SPY has suffered an annualized loss of 6 basis points over the past decade, creating a small but unnecessary burden on investors.
Sustained and strong inflows into VOO could finally erase SPY's 17-year head start in 2025. This year, Vanguard's challenger added a record $116 billion in new capital, $96 billion more than SPY. If inflows continue at a breakneck pace beyond 2024, VOO will become the world's largest ETF by summer. However, if VOO returns to its three-year average flow dominance ($40 billion), SPY will maintain its lead for some time to come. It will be a close race in 2025.
—Brian Armor
Prediction 5: ETF share classes will become a reality…but single active ETFs will remain on top.
Companies have been piling up applications for ETF share classes after the patent on Vanguard's structure expires in 2023. But once approved, it may not be the lifeline many were hoping for.
ETF share classes have advantages. It can take over some of the capital gains tax burden of existing mutual funds, especially if assets are being outflowed. It's also cheaper to implement than launching an entirely new ETF. Still, standalone ETFs have distinct advantages.
The tax benefits of standalone ETFs are immediate and do not depend on the performance or flows of the mutual fund. The ETF-as-a-share-class structure requires the ETF vehicle to accumulate sufficient assets and inflows to protect the mutual fund from capital gain distributions. This can take some time, especially if there is a lag in mutual fund performance and flows.
Standalone ETFs may also be better positioned to address capacity issues in ETF structures. Since ETFs cannot be closed to new investors, high-conviction strategies will likely remain in mutual funds or closed-end funds. Successful mutual fund managers can expand their investor reach and control by launching standalone ETFs that resemble but are not copies of mutual funds. For them, ETF stock classes can cause more problems than they solve.
Finally, advisors must act in the best interests of their retail clients when making recommendations under the SEC's “Best Interest” regulation. This typically means recommending the cheapest share class for which an investor is eligible. Introducing a cheaper ETF share class for a mutual fund could cannibalize existing share classes.
—Lan Anh Tran
Prediction 6: The main drawbacks of ETFs will be reversed.
ETFs are inaccessible to new investments. This drawback is largely overshadowed by the myriad benefits that resonate with investors. But the inability to escape funds will spell disaster for at least one ETF in 2025, making headlines and forcing the market to reconsider where ETFs make sense. Dew. This could be described as the first battle in a honeymoon between ETFs and a class of investors hooked on them.
The amount of capital a strategy can absorb without compromising performance depends on its scope, liquidity, and valuation. ETFs have historically included broad indexing strategies that can easily absorb large investments. It now also hosts narrower strategies that require lean strategies to execute properly, such as concentrated small-cap funds. This is a risk if closing the ETF is not an option.
The problems here are already surfacing. Pacer US Small Cap Cash Cows 100 ETF CALF is an $8 billion ETF that owns at least 5% of the stocks in 30 portfolio holdings and ranks last among all small-cap ETFs through 2024, with a 1-year It fell by 7.5%. Morningstar US Market Index Increased by 24%. ARK Innovation ETF ARKK had well-documented issues with capacity during its heyday.
My prediction is that we'll see a more high-profile meltdown in 2025 where investors realize this shortcoming. ETFs will continue to take over the US fund market, but the transition from mutual funds to ETFs in capacity-sensitive categories may be delayed.
—Ryan Jackson
Points of ETF investment
It is impossible to predict the future because we do not know it. But speculation is fun, and it forces investors to consider possible outcomes.
These predictions are not intended to serve as principles for the ETF or to suddenly change course. Instead, it aims to highlight some areas, themes and trends that investors should pay attention to heading into 2025.
Future developments may match our predictions, but they are unlikely to be exactly accurate. Please consider each one separately. However, pay attention to the topics and themes mentioned in each one. You will notice something surprising.
Morningstar's 2024 ETF predictions
Prediction 1: Active ETFs will be the preferred choice for ETF investors seeking alpha.
Results: Flows into active ETFs reached $293 billion in 2024, while strategic beta ETFs attracted $139 billion.
Prediction 2: ETF closures will increase.
Results: 187 ETFs closed in 2024, down from 226 in 2023.
Prediction 3: Fixed income ETF launches and flows will accelerate, led by active ETFs.
Results: Active fixed income ETFs launched 132 new ETFs and attracted $111 billion in new capital. Both represent significant increases from 2023.
Prediction 4: Alternative ETFs will gain momentum.
Results: IMGP DBi Managed Futures Strategy ETF DBMF's assets exceeded $1.3 billion, and KFA Mount Lucas Strategy KMLM grew to approximately $330 million by year-end. The number of non-buffered and non-cryptocurrency alternative ETFs available increased to 26 in 2024 from 22 the previous year.
Prediction 5: Covered Call ETFs will lose momentum
Results: Derivative Income Morningstar Category ETFs attracted $34.1 billion in new capital, with total assets increasing to $99.3 billion from $61 billion a year ago.
Prediction 6: ETF fees will reverse trend and increase
Results: Asset-weighted average fees and equal-weighted average fees for all ETFs remained constant at 0.16% and 0.51%, respectively.
