The proportion of UK wealth portfolios invested in index funds and ETFs will grow by 50% over the next two years, according to a report from BlackRock, the issuer of iShares ETFs.

Joe Parkin, Head of iShares UK.

Based on an analysis of over 600 portfolios, BlackRock estimates that assets in tracker funds will grow to over $500 billion, making up around 30% of total UK managed assets.

Joe Parkin, Head of iShares UK, believes that the UK wealth management industry has reached a pivotal moment.

He said, “There is growing recognition that many of the habits and processes that have got us to where we are today have become outdated and won’t meet the needs of clients in the future. The investment industry is beginning to stir and respond, and while change won’t happen overnight, the direction of travel is clear and irreversible.”

BlackRock points to four trends that are expected to drive higher adoption of ETFs and index funds.

• Business model evolution.

BlackRock notes that in the years since the Retail Distribution Review (RDR), the UK wealth management and IFA markets have gone through a once-in-a-generation revolution. The amount of IFA assets on UK platforms being outsourced to discretionary fund managers and centralized investment propositions now stands around 50%.

Additionally, increased transparency under MiFID II has heightened scrutiny over fees, which favours indexing and deploying ETFs and index funds at the heart of portfolios.

• Active portfolios work harder with indexing

BlackRock believes that a more detailed understanding of returns and a drive towards efficiency has promoted wider recognition that active portfolios work harder when combined with indexing.

It notes that investors are shifting from traditional security and fund selection to holistic portfolio construction that uses tech-based analysis to inspect portfolio return drivers and the interaction of components.

Meanwhile, a growing body of research indicates that broad market exposure and factor tilts drive up to 90% of portfolio variance. As more and more investors become aware of this, they are dropping the outdated active vs. passive mindset and seeking increasingly elusive returns by blending alpha-seeking, factor, and index strategies.

• The engine behind digital wealth management

BlackRock predicts that ETFs will continue to benefit from digital wealth management (also known as robo-advice) moves further into mainstream investing. The firm notes that indexing tends to be the hidden engine behind this technology, providing the building blocks for portfolios that can be scaled to accommodate different investment styles and efficiently adjust to asset growth.

• Growing choice of wrappers

BlackRock observes that UK platforms are well set-up to provide access to index funds, with many working to establish the capabilities to efficiently trade ETFs as well. This latter development will open a new level of choice for investors looking to build cost-efficient portfolios.

Industry comment

Bill Vasilieff, CEO at Novia Financial, said, “We are seeing a growing demand on our platform for indexing from both advisers and DFMs. Investors are increasingly focused on understanding the characteristics of what they hold within their portfolios, and how the different components interact to deliver a specific outcome. The transparency of holdings and choice of exposure that indexing provides means they are fast becoming an important ingredient in portfolio construction.”

Gareth Johnson, Head of Digital Channels and Investment Solutions at Brewin Dolphin, said, “Seven years on from RDR, helping our clients reach their goals has involved evolving our proposition to the changing dynamics in the market. More advisers than ever are outsourcing their discretionary portfolios and, with a greater focus on costs, it is increasingly important to scrutinize drivers of portfolio returns. This is not about active vs. passive, it is about having access to the broadest range of strategies so that we can meet the needs of our clients, or clients of advisers, more efficiently. Index strategies are an important and growing part of the mix in helping us achieve that.”