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Expert issues warning on Irish ETFs

Finance expert Justin Modray has warned investors of the potential dangers of Irish exchange-traded funds following the country's financial crisis.

By Aamina Zafar | Published Dec 16, 2010 | comments

He raised concerns about a popular series of iShares ETFs that are domiciled in Dublin, run by Blackrock, after a customer asked him whether they were covered by the Financial Services Compensation Scheme.

Mr Modray, who set up finance website Candid Money, said: "Those iShares ETFs are not covered by the FSCS because they are domiciled in Ireland rather than the UK. This means that in the very unlikely event your money vanishes, for a reason other than poor investment performance, you will not be entitled to any compensation from the UK FSCS."

He said there was always additional risk when an ETF uses an investment bank to provide index tracking.

Mr Modray said: "When an ETF tracks an index it will generally either buy all the shares that comprise the index or agree a deal with a third party who will provide the tracking, known as a swap-based or synthetic ETF.

"In the case of a swap-based ETF, the fund owns the underlying shares so it should be safe in the broad scheme of things. In the latter case the fund is relying on a third party to provide the returns. If the counterparty goes bust the fund could lose money. This happened when Lehman Brothers, a popular counterparty, bit the dust.

"iShares uses the governor and company of the Bank of Ireland as custodian on its Dublin ETFs, which gives me cause for concern. However the chances of the EU allowing an Irish bank to go bust seem pretty much zilch."

Derek Baillie, IFA for West Midlands-based FSC Investment Services, agreed that investing in the Irish market generally, and not just ETFs, was a risky move.

He said: "To be honest I have never had a lot of confidence in the Irish market and the latest problems over there do not give me a lot of reassurance. I would certainly urge investors to be cautious."

A spokesman for Blackrock said: "It is correct that iShares ETFs are not covered by the FSCS because the structure of the physical-based ETF would allow investors in the ETF direct access to the fund's assets.

"The ETF assets are completely ring-fenced at the custodian level, which means that investors' assets are segregated liabilities and would have recourse to this pool of assets in the event of default. In worst case scenario, investors will have direct access to these securities and assets."

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