2019’s ETFs look like 2008’s CDOs, warns Scion AM’s Michael Burry

Assets under management (AUM) in the exchange traded funds (ETFs) industry have grown from less than $691 billion before the 2008 financial crisis to $5.3 trillion globally in late 2018 – a significant 665.89 percent leap. An easier and cheaper way for institutional as well as individual investors to get an already diversified slice of large chunks of the stock markets, ETFs currently represent a third of the latter’s daily volume.

To the point that Dr. Michael J. Burry, Scion Asset Management’s Founder whose story was featured in best-selling book and Oscar-winning movie “The Big Short”, told Bloomberg that today’s Index Funds – including ETFs – are like subprime collateralized debt obligations (CDOs) before the 2008 financial crisis.

“This is very much like the bubble in synthetic asset-backed CDOs before the Great Financial Crisis in that price-setting in that market was not done by fundamental security-level analysis,” Burry explains. “The dirty secret of passive index funds is the distribution of daily dollar value traded among the securities within the indexes they mimic,” Burry adds.

In short, trillions of dollars in assets would be traded on the basis of stocks that separately trade from between $1 million to under $150 million of volume during the day, thus if a market meltdown happened, the unwinding of such trillions in ETFs could prove highly difficult if not impossible. “Like most bubbles, the longer it goes on, the worse the crash will be,” underlines Michael Burry who made a fortune betting against CDOs before 2008.

In March 2019, there were more than 5,000 exchange traded products (ETPs) trading in the U.S., including exchange traded funds (ETFs) of which the market share in the U.S. was still small compared to others in September 2018 since fixed income markets were 11.6x greater then ETFs; equities were 9.4x ETFs; and Mutual Funds (MF) were 5.5x ETFs.

In August 2017, 5 providersBlackRock, Vanguard, State Street, Invesco and Charles Schwabmanaged almost 90 percent of the ETF industry and of the $5.3 trillion global ETP market, assets in U.S. products made up 68 percent.