Actively Managed ETFs – A Misunderstood Product Type?

The debate over actively managed ETFs has long simmered in the investment community. Critics argue that active strategies are doomed to underperform due to higher fees and market efficiency, while proponents highlight their adaptability in volatile environments. Yet, a critical distinction often overlooked is the difference between true active management and quasi-active strategies. This distinction isn't just semantic-it shapes risk, returns, and investor outcomes in profound ways.

True Active vs. Quasi-Active: Definitions and Key Differences

True active management in ETFs involves portfolio managers making discretionary decisions to outperform a benchmark, often through stock-picking, sector rotation, or derivative overlays. This approach prioritizes alpha generation and strategic flexibility, even if it means higher costs and less transparency according to Investopedia. In contrast, quasi-active strategies-commonly labeled "smart beta"-use predefined rules or factors (e.g., value, momentum, quality) to construct portfolios. These strategies aim to enhance risk-adjusted returns while maintaining cost efficiency and transparency, but they lack the subjective judgment of true active management as research shows.

For example, a true active ETF might dynamically adjust its holdings based on macroeconomic trends or geopolitical events, while a quasi-active ETF might systematically overweight low-valuation stocks using a fixed formula according to ETF Trends. The latter's rules-based approach reduces manager discretion but also limits the potential for opportunistic adjustments.

Performance: Volatility, Drawdowns, and Sharpe Ratios

The 2020-2025 period, marked by pandemic-driven crashes, inflation spikes, and geopolitical tensions, offers a compelling test case. Active ETFs, with their ability to hedge via derivatives and rebalance in real time, proved more resilient during sharp drawdowns. For instance, in early 2025, when equity markets plummeted, active ETFs employing options-based overlays according to Trowe Price mitigated losses more effectively than quasi-active counterparts.

However, quasi-active strategies often outperformed in terms of risk-adjusted returns. A 2023 study noted that quasi-active ETFs, by blending passive efficiency with factor tilts, achieved Sharpe ratios comparable to true active strategies at a fraction of the cost. This suggests that while active ETFs may offer superior downside protection, quasi-active strategies can deliver better returns per unit of risk-a critical consideration for long-term investors.

Risk Management: Flexibility vs. Systematic Rules

True active ETFs leverage tools like futures, options, and futures contracts to manage volatility. For example, a manager might short overvalued sectors or use put options to cap losses during downturns as demonstrated by Hartford Funds. This flexibility is a double-edged sword: it can enhance returns in turbulent markets but also introduces complexity and liquidity risks.

Quasi-active ETFs, meanwhile, rely on systematic rules to mitigate risk. A value-focused quasi-active ETF might screen for low-price-to-earnings ratios and high cash flow, automatically excluding volatile or overpriced stocks as MarketWatch reports. While this reduces manager bias, it also limits the ability to react to sudden market shifts-a trade-off that becomes evident during black swan events.

Investor Implications: Cost, Transparency, and Strategic Fit

The cost differential between the two strategies is stark. Quasi-active ETFs typically charge 0.20% to 0.50% in expense ratios, while true active ETFs often exceed 0.75% according to Fidelity. For investors prioritizing cost efficiency, quasi-active strategies are a compelling option. However, those seeking to navigate unpredictable markets-such as retirees or those near retirement-may find the adaptability of active ETFs more valuable, despite higher fees as CNBC reports.

Transparency also plays a role. Quasi-active ETFs, with their rules-based methodologies, offer greater clarity on holdings and rebalancing schedules. Active ETFs, particularly those using derivatives or semi-transparent structures, can obscure portfolio details, increasing trading costs due to wider bid-ask spreads according to ETF Stream.

Conclusion: A Nuanced Approach to Active ETFs

Actively managed ETFs are not a monolith. True active strategies offer unparalleled flexibility but come with higher costs and complexity. Quasi-active strategies provide a middle ground, balancing cost efficiency with risk-adjusted returns. For investors, the choice hinges on their risk tolerance, time horizon, and market outlook. In a world of persistent volatility and shifting macroeconomic dynamics, understanding this distinction isn't just prudent-it's essential.