In recent years, a seismic shift has commenced in the world of investment: the rise of passive investing and the growing prominence of Exchange Traded Funds (ETFs). These investment vehicles have undergone a transformative boom, quickly establishing themselves as a dominant strategy among investors seeking lower costs and diversified exposureAs the ETF market flourishes, fund companies are responding by expanding their offerings to include a plethora of connected funds tailored for peripheral investors whose needs are changing in the contemporary investing landscape.

One key factor contributing to the popularity of ETF-connected funds is their relatively low entry barriers compared to traditional fund products, making them more accessible to a wider pool of investors

As the year progresses, these funds have seen a meteoric rise in issuance, resulting in an impressive market size now surpassing 364.1 billion yuan, reflecting an 11% increase from the end of last yearInterestingly, even as the net value of such funds has faced downturns, their ability to attract fresh capital continues unabated, creating a marketplace that is breaking prior records in terms of overall size and newly issued funds.

However, the boom in ETF-connected funds is not without its challengesThe market faces issues of product homogeneity and an alarming rise in the number of mini-funds, which presents its own set of difficulties that investors must navigate.

The race to launch connected funds

In response to the current market environment, characterized by sluggish overall fund issuance, ETFs have emerged as a beacon for new market entries, capitalizing on their innovative and diverse product offerings

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Fund management companies are moving rapidly to submit applications for ETF-connected funds immediately following the establishment of their respective ETFs, demonstrating an urgency in competing for market share.

Unlike traditional ETFs that require a securities account for trading and typically have higher thresholds for purchase and redemption, ETF-connected funds operate through simpler mechanismsThey allow retail investors to dip into the ETF market without navigating the complexities associated with direct investmentsWith the majority of fund purchase platforms offering convenient auto-debit features, these funds facilitate regular investing among users.

As of November 5, the current landscape reveals that 11 connected funds are in the midst of their issuing phases, indicating a strong interest in such tailored products designed for the peripheral marketplace.

An exemplary case is the officially launched Kexin 100 Index on August 7, which marked the second broad-based index from the Science and Technology Innovation Board in China

The earliest four Kexin 100 ETFs made their debut on September 15, with fund companies swiftly publishing prospectuses for Kexin 100 ETF-connected funds soon thereafterThis rapid launch cycle speaks to the urgency and competitiveness in this segment of the market.

Interestingly, several funds released this year have implemented extremely short subscription periods, with industry experts indicating that the challenges in successfully launching new offerings lead companies to prioritize marketing resources towards established products once they reach the market.

Recent releases in ETF-connected funds include the CSI 2000 ETF connected fund and the Kexin Growth ETF connected fund, both of which have debuted in the peripheral market as first-of-their-kind products.

With an expanding array of in-market ETFs, the timely offering of connected funds provides peripheral investors with enhanced options to meet their investment needs.

A Shanghai-based fund company emphasized that demand for ETF-connected products among peripheral investors continues to grow

These funds are viewed positively for their potential to facilitate investments in ETFs without the requirement for a securities account, thus fulfilling a significant need in this market.

Major players in the field

The race among fund companies to issue connected funds has begun in earnest, with many firms vying to claim their piece of an expanding market that shows signs of increasing scale.

According to Wind data as of November 5, the total number of ETF-connected funds reached 450, with 85 new funds established in just this year alone—an impressive tally that has the potential to eclipse previous records set in 2021.

The latest market size for ETF-connected funds tops 364.1 billion yuan, representing an 11% year-on-year growth even amidst declines in net values, showcasing their ability to attract capital and scale up.

The first wave of ETF-connected funds in China came into being back in 2009, but it was only in recent years that they have truly begun to catch momentum.

The explosion of the ETF-connected fund market closely parallels the rising popularity of ETFs themselves

Market trends have illustrated significant movements away from active equity funds, allowing the inherent advantages of ETFs to shine, prompting fund companies to actively pursue a wide range of ETF products across various sectors.

Significantly, the development of ETF-connected funds has illustrated a pronounced Matthew Effect, where a small number of fund companies dominate the spaceCurrently, 44 firms are participating in the ETF-connected fund landscape, and only a select few companies—15—offer more than ten different connected funds, with Huaxia Fund, E-Fond, and Guotai Fund leading in product quantity.

In 2023, Huaxia Fund and E-Fond launched an impressive number of ETF-connected funds, totaling 17 and 18 respectively, far exceeding the newly established offerings of their closest competitors—including Guotai Fund with a mere five new launches this year.

Regarding asset scale, E-Fond and Huaxia Fund maintain their positions as industry leaders with respective sizes of 67.472 billion yuan and 61.77 billion yuan, far outpacing their nearest competitors.

The explosive growth of the ETF market indicates a robust potential for the segment of ETF-connected funds designed for peripheral markets, demonstrating strong capital-raising capabilities.

In summary, E-Fond and Huaxia Fund report increases in ETF-connected fund sizes totaling 13.757 billion yuan and 10.857 billion yuan respectively, leading the field of peripheral market growth as other firms follow suit but with smaller increments.

Despite the recent flurry in product issuance, fully recognizing that the overall proportion of non-monetary ETFs remains strikingly low in relation to the total scale of public fund management in China, both ETFs and ETF-connected funds have significant prospects for growth.

Yet, numerous challenges persist

However, it is essential to recognize that this rapid evolution of ETF-connected funds is accompanied by several hurdles.

Data reveals that nearly 200 ETF-connected funds currently have a scale of less than 100 million yuan, accounting for a staggering 44% of this market, thus becoming the breeding ground for what are termed "mini funds." As a concerning manifestation of this trend, 10 ETF-connected funds have already announced closures this year, highlighting the ongoing turbulence.

The rise of ETF-connected funds was a direct response to market demands, extending a lifeline to investors seeking indirect access to ETF investments

However, as the range of these funds broadens, the onslaught of similar products creates fierce competition, particularly notable in cases where multiple firms vie for offerings tied to popular indices like the CSI 300.

ETF-connected funds predominantly allocate over 90% of their assets to a specific target ETF, resulting in performance metrics that closely resemble those of the underlying fundAsset holders are thus subject to both tracking errors of the target index and additional management discrepancies, underlining the need for diligent oversight from fund managers.

Moreover, compared to standalone ETFs, ETF-connected funds can introduce additional costs related to transaction fees, redemption fees, and ongoing holding expenses that investors must consider carefully.