Analyzing Exchange-Traded Funds in Passive Equity Investing

In recent years, the adoption of Exchange-Traded Funds (ETFs) as a vehicle for passive equity investing has surged significantly among both individual and institutional investors. Consider the implications of this increasing trend for market efficiency, investment strategy, and fee structures.

As a portfolio manager, you are tasked with analyzing the role of ETFs in a passive investment strategy. Your analysis should include a discussion on the advantages and disadvantages of ETFs compared to traditional mutual funds, their impact on liquidity and trading costs, and their effect on market dynamics and investment behaviors. Lastly, address the potential challenges posed by the rapid growth of ETFs in the equity markets.

Provide a well-structured essay that thoroughly addresses these points, along with supporting evidence and examples where appropriate.