Opposite to the overall trend in the European ETF industry, factor-based ETFs faced estimated net outflows of €0.7 bn for 2023. These outflows occurred after two years of inflows into factor-based ETFs in Europe. Does this mean that factor-based ETFs are out of favor with European investors?

On the first view, one could argue that a group of products that faced outflows, while the product category itself enjoyed in general very healthy inflows, is out of favor, but on the other hand, there might be some other drivers visible in the underlying data.

A more detailed view of the estimated net flows in factor-based ETFs by assets type may also lead to the assumption that this kind of ETFs is somewhat out of favor, since factor-based equity ETFs faced outflows of €1.0 bn, while equities (+€92.3 bn) were the best-selling asset type overall in the European ETF industry for 2023. Conversely, the outflows from factor-based commodities ETFs (-€0.03 bn) were in line with the overall industry trend for this asset type.

Factor-based bond ETFs were the only asset type that enjoyed inflows (+€0.3 bn) in line with the overall flow trend for the asset class over the course of 2023.

Even as these numbers do somewhat confirm the overall assumption that factor-based ETFs might be out of favor with European investors, a more detailed view of the estimated net flows by factor may shed a different light on the overall flow trend.

Graph 1: Estimated Net Flows in Factor-Based ETFs by Factor (January 1 – December 31, 2023)

Source: LSEG Lipper

 An analysis of the estimated fund flows by factor shows that the overall trend in factor-based ETFs is rather driven by the market environment than by investor sentiment against factor-based ETFs. This is because ETFs based on the value factor (-€4.0 bn) faced the highest outflows from factor-based ETFs overall, which can be explained by the underperformance of this factor compared to the overall market over the course of 2023. On the other hand, the ETFs based on the size factor enjoyed the highest inflows (+€2.2 bn) for factor based ETFs. This may mean that European investors might have shifted money from the value factor to the size factor, as they may expect that small caps will start to outperform the overall market rather sooner than later.

Some other investors might have shifted money from the value factor to the quality factor (+€1.7 bn) as they might expect stocks with strong (high quality) balance sheet to outperform value stocks and the wider market.

In addition to this, we also witnessed outflows from volatility/minimum variance factor ETFs (-€2.1 bn) and inflows into multifactor ETFs (+€2.1 bn), which means that there was another factor rotation in place.

Even as these numbers do match up quite nicely, it can never be said that these assumptions of the fund flow trends are true, as there is no evidence for the mentioned shifts in the asset allocations of single investors.

Nevertheless, the estimated fund flows on factor level signal that the outflows from factor-based ETFs are rather driven by the developments in the equity markets than by an in general negative attitude toward factor-based products.

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