An analytical performance comparison of exchange-traded funds with index funds: 2002–2010

Abstract

An analytical performance comparison of exchanged traded funds with index funds: 2002-2010.Abstract Exchanged Traded Funds (ETFs) have been gaining increasing popularity in the investment community as is evidenced by the high growth both in the number of ETFs and their net assets since 2000. As ETFs are in nature similar to index mutual funds, in this paper we examined if this growing demand for ETFs can be explained through their outperformance as compared to index mutual funds. We considered the population of all ETFs with inception dates prior to 2002 and then for each ETF found all the passive index mutual funds that had the same investment style as the selected ETF and had inception date prior to 2002. This lead to a sample of 230m paired matches for all the styles. Within each investment style we matched every ETF with all the passive index funds in that investment style and compared the performances of the matched pairs in terms of Sharp Ratios and risk adjusted buy and hold total returns for the period 200-2010. We then applied the Wilcoxon signed rank test to examine if ETFs had better performances than index mutual funds during the sample period. We conducted the test both within each style and for all the styles together. In terms of Sharpe Ratio, out of the 12 styles included in the sample, in 5 cases the conclusion was that ETFs outperformed index funds, for the 3 styles, U.S. Broad market, U.S large cap growth, and U.S. Reits index funds outperformed ETFs and for 4 styles there was statistically no significant difference between ETFs and index funds performances. Out of the 230 paired matches of all the styles, ETFs outperformed index mutual funds in 134 of the times in terms of Sharpe Ratio, however, the test of the hypothesis showed no statistically significant difference between ETFs and index funds performances in terms of Sharpe ratio. Break-down of the results for riskadjusted buy and hold total returns was slightly different from those for the Sharpe Ratio, though the overall conclusion was the same. For 5 of the styles index funds outperformed ETFs, for 3 styles ETFs outperformed index funds, and for 4 styles there was statistically no significant difference between the performances of the two. Out of the 230 paired matches of all the styles, ETFs outperformed index mutual funds in 125 of the times in terms of risk adjusted buy and hold total return, however, the test of hypothesis showed no statistically significant difference between ETFs and index funds performances in terms of risk adjusted buy and hold total return. These findings indicate there is statistically no significant difference between ETFs and passive index mutual funds performances at the fund level and investors' choice between the two is related to product characteristics and tax advantages.

A Quantitative Comparison of the Financial Returns of Index ETFs and Matched Index Mutual Funds

“…The objective of the current research work is to overcome the limitation of the prior published work (Sharifzadeh & Hojat, 2012). We have assumed that the Sharpe ratios of index ETFs and matched index mutual funds are independent.…”

“…Similarly, the risk-adjusted buy and hold returns of index ETFs matched index mutual funds are actually independent. This was the flaw in their analysis (Sharifzadeh & Hojat, 2012).…”

“…In the last few years, investments in exchange traded funds (ETFs) have gained significant popularity among the financial investors (Agapova, 2011;Charupat & Miu, 2013;Rompotis, 2009a;Sharifzadeh & Hojat, 2012). Charupat & Miu (2013) documented that by the end of 2011, the combined assets under management of all ETFs traded in the different stock exchanges around the word were $1.52 trillion.…”

“…According to this author, index mutual funds had more than $1 trillion of assets under management by the end of 2008 (Agapova, 2011). Index mutual funds can be considered as substitutes for index ETFs (Agapova, 2011, Sharifzadeh & Hojat, 2012. However, tax benefits are significant for investing in ETFs, because there are infrequent turnovers of stocks that comprise the portfolios of ETFs.…”

“…The Sharpe ratio measures the return of an investment portfolio by taking into account the average annual return and the volatility of the return of the investment portfolio. Sharifzadeh & Hojat (2012) had used Wilcoxon signed-rank nonparametric hypothesis test in comparing the Sharpe ratios and the risk-adjusted buy and hold returns. Thus, they assumed tacitly that the Sharpe ratios of index ETFs and matched index mutual funds are dependent.…”