The opening months of 2024 extended a key message of the previous year: don’t bet against big tech. That’s evidenced enough by shares such as Nvidia (US:NVDA) continuing to soar ahead, with the funds and trusts backing artificial intelligence (AI) plays most heavily, such as Manchester & London Investment Trust (MNL), racking up their own hefty gains. Similar trends can be seen on a market level: the S&P 500 made a double-digit return in the first quarter of this year, putting it ahead of mainstream indices in Europe, the UK and Asia.

Investors have sought to keep riding this wave, be it by continuing to invest in US tech stocks directly or using actively managed funds with a growth style. The trend is also becoming more prominent in the passive space, where a degree of positive sentiment is also in evidence.

European investors put some €44.5bn (£38bn) into exchange traded funds (ETFs) in the first quarter of 2024, down slightly from the €47.4bn of flows in the final quarter of 2023 but still well up from Q3’s €31.4bn and Q2’s €28.1bn, Morningstar data shows.

This, combined with the effects of performance, saw assets under management grow from €1.64tn at the end of 2023 to €1.81tn at the end of March this year. This was a 10 per cent increase over the course of that quarter, and a new record high for the market.

Much of the inflows were focused on risk assets and those markets still leading the charge in terms of returns. Morningstar notes that the bulk of flows, or €36.8bn, went into equity vehicles. Investors appeared to be following current trends by mostly favouring US equity exposure, via both dedicated US funds and global ETFs. Contrarian options suffered, on the other hand, with value ETFs falling out of favour. 

“Investment inflows found solace within equity ETFs, notably gravitating towards the US market,” says Jose Garcia-Zarate, associate director of passive strategies at Morningstar. “However, amid this surge, value equity strategies and German equities were sidelined.”

That value point is perhaps unsurprising, given the differing track records of certain factor ETFs in recent times. To draw from one cohort, the iShares Edge MSCI USA Momentum Factor ETF (IUMF) made a staggering 21.3 per cent sterling total return in the first quarter. The iShares Edge MSCI USA Quality Factor ETF (IUQF) made a return of nearly 13 per cent, with its value-focused counterpart making a decent but much less impressive 8.7 per cent. That fund, the iShares Edge MSCI USA Value Factor ETF (IUVF), does have a decent allocation to the information technology sector, but lacks exposure to companies such as Nvidia. The fund has made a return of around 45 per cent over five years versus 93.1 per cent from the quality factor ETF and 79.4 per cent from the momentum fund.

Bond broken?

If value funds being out of favour is no surprise in that context of underperformance, it’s notable that appetite has also dimmed for bond funds. Garcia-Zarate notes that a once steady stream of flows into bond ETFs has witnessed a slowdown, in what he views as an “investor recalibration of rate cut expectations”.

Flows into such products came to €8.8bn in the first quarter of 2024, down from €14.1bn in the last three months of last year. With the 10-year gilt yield at around 4.3 per cent at the time of writing, investors can still take advantage of some chunky yields (via ETFs or buying directly), although there’s still plenty of competition from attractive dividends in the equity space. And the fact that yields have risen once again in 2024 has hurt performance for bond funds.

Elsewhere, Garcia-Zarate cited an “existential crisis” when it comes to environmental, social and governance (ESG) fund flows, given these are still positive in real terms but have notably dwindled as a proportion of the overall money going into ETFs. 

“It appears some investors forsake the long term, fatigued by prolonged underperformance,” he says.

“Additionally, geopolitical uncertainties and the upcoming US election propel a tilt towards mainstream investments.” ESG vehicles took in €7.1bn in the first quarter, down from €13.8bn in the closing quarter of 2023. They accounted for some 16 per cent of total flows, well down from 29 per cent at the end of last year.

Turning to other options, commodity funds suffered some €2.2bn of redemptions in the first quarter, a slightly less bad outcome than the €4.9bn outflow that marked the final quarter of 2023.

This came despite the soaring gold price and improving price performance for other metals, although bullion’s rise in particular could yet turn investor heads over time. A separate Lipper report on money going into London-listed ETFs in March showed that commodity funds here actually had a “rare time in the black” in the first quarter, taking on some £367mn. However, they still represent very little of that market, at around 1 per cent of ETF assets.

Other products have certainly enjoyed a revival of sorts, with thematic ETFs gathering €350mn of inflows in the first quarter following two consecutive quarters of outflows at the end of 2023. Plenty of thematic ETFs have managed to ride the AI-led rally at least in part, although Morningstar notes that most of this quarter’s inflows were directed at ETFs in its ‘social themes’ classification. Investors may well be tempted by the returns of funds backing the tech giants, however: the VanEck Semiconductor ETF (SMGB), for one, generated a return approaching 25 per cent over the first quarter. The fund has around 10 per cent of its assets tied up in Nvidia alone.

Elsewhere the nascent emergence of active ETFs continued in Europe, with such funds taking €2.1bn in net inflows over the quarter. Assets more generally grew to €33.6bn, meaning they make up 1.9 per cent of that market. A big player has now made its presence known in the space, with iShares launching two active equity income ETFs. However plenty of factors may well continue to hinder the growth of active ETFs in the UK, from a lack of the tax advantages available to such options in the US to the fact that so many active funds already exist in other forms.