ETFs need disclosure and transparency: Edhec-Risk
Regulators focus their attention on the risks posed by exchange-traded funds as there is a significant lack of understanding, transparency and disclosure, an academic report has found.
The 70-page report, What are the Risks of European ETFs, published by the Edhec-Risk Institute, said more disclosure on risk was required to allow investors to perform due diligence.
The report said more transparency and consistency on revenues and costs were also needed for cost-benefit analyses.
It highlighted that there was a risk of confusion between different sorts of exchange-traded products and specifically a risk that retail investors could assume that all ETPs provide the same protections as Ucits ETFs.
The report claimed addressing the risks should be a priority for regulators.
It said: “Disclosure of total returns and total costs is one way to mitigate conflicts of interest and promote value enhancement for investors.
“How costs and fees are shared between the ETF and its agents in the context of securities lending programmes or tax-optimisation operations should be disclosed. There should also be transparency on how fees collected compare to relevant performance indicators in the industry.”
The report also recommended the promotion of a new measure allowing investors to gauge what share of the total return, generated through the risks assumed on their behalf by funds, is passed through to them.
The calculation of this total return ratio would capture the returns to counterparty risk arising from any securities lending operations.
By highlighting the share of returns that does not accrue to the investor, such a ratio would permit an assessment of the true cost of asset management, beyond the picture given by the total expense ratio.
The report said that the recent debate on counterparty risk within the investment industry has initially focused on the over-the-counter derivative operations of synthetic replication ETFs, but the securities lending transactions, that are an essential source of revenues for physical replication ETFs, are now being scrutinised. It added this is fair since these are an economically equivalent operation.
Chris Bowmer, director for Northamptonshire-based Fortitude Financial Planning, said: “I am in favour of more clarity. There is a real problem with a disparity of benefit for clients investing, as the industry seems intent on keeping as much as possible of the return away from clients. If we could have real information on what money they make from the fund, including all fees, then that will open everything up to more scrutiny.”
John Bloomfield, IFA for County Durham-based Paul Wilson Financial Services, said: “Too much transparency and detail can make the costs of an investment more difficult for an investor to understand.”
