Article 1 / 3
Passive Investing – June 2016Passive funds with additional flexibility
Passive investing has increased in popularity in recent months, with the Investment Association highlighting net retail inflows into tracker funds of £454m in April 2016.
But while tracker funds are gaining favour among UK retail investors, exchange-traded funds and products (ETFs/ETPs) appear to be the preferred form of passive investing for many, with global-listed ETP assets of more than $3trn (£2.1trn), data from both ETFGI and BlackRock’s monthly ETP Landscape report shows.
Drivers behind the rise in passive investment could include an increasing focus on costs as well as market and macroeconomic uncertainty, with issues such as the upcoming EU referendum and global monetary policy pushing investors towards more broad exposure to a sector, region or asset class.
Investors choosing a passive route then have to make the choice between a tracker or mutual indexing fund or an ETF, with both products offering many similarities and only a few differences.
The ability to sell ETFs short enables investors to hedge their portfolio, or express a negative view on a sector or an entire market, albeit at a cost Mark Fitzgerald, VanguardBryon Lake, head of Invesco PowerShares for Emea, points out there has been an undeniable shift towards passives for many decades, but notes the two types of vehicle are not dependent on each other. “Passive investing is an investment approach and ETFs and/or trackers are a wrapper conversation,” he says.
“You could easily get any of the investment content in either a tracker or an ETF. [Investors need to] think about the types of exposure they’re trying to get to the market then talk about the right vehicle to get that exposure.”
The first ETF was launched in the US in 1993, with the products moving to Europe roughly a decade later. Mr Lake notes the idea was borne out of efficiency – the concept of buying one share in an ETF but having exposure to all the underlying stocks in an index.
In terms of gaining exposure to a particular index or sector, he says there are benefits to both ETFs and tracker funds. For example, they both have access to the underlying shares, they tend to be extremely transparent and have a “reasonable price point”. In addition, tracker funds fit nicely into the existing infrastructure of UK investment platforms.
“The ETF has the same benefits – transparent, fully invested, low cost – but you also have a couple of additional pieces to that. You can deal intraday in an ETF, so you have that intraday liquidity point, which brings another level of flexibility and liquidity.”
| ETFs or tracker funds: Expert view |
Simon Klein, head of exchange-traded product sales for Europe and Asia at Deutsche Asset Management, looks at cost implications: “ETFs and tracker funds both fundamentally do the same thing, in that they are funds that track an index. Traditionally, tracker funds have been lower cost than ETFs, and many tracker products have minimum investment amounts that make them not so suitable for retail investors. “But as competition in the ETF market has become so intense in recent years, fee compression on ETFs has meant that in many cases this may be the most cost-effective way to access the index exposure. ETFs can also provide an additional layer of liquidity, which is helpful, especially when the underlying market may be less than liquid. “Investors that have a choice of either a tracker fund or an ETF on the same benchmark might look at a number of things. A lot of investors like to know that their provider is a large, established investment house. They’ll also look to get a sense of what the total cost of ownership in each case is; that is, the overall cost of buying, holding and then exiting their position. This takes into account tracking difference and any buying and selling costs.” |
Apart from additional liquidity and real-time pricing, Mark Fitzgerald, head of product for Europe at Vanguard, points out the ability to trade ETFs on an exchange means they offer investors the same trading flexibility offered by stocks, including limit orders, market orders, stop-loss orders, and the abilities to purchase on margin and to sell short.
He adds: “The ability to sell ETFs short enables investors to hedge their portfolio, or express a negative view on a sector or an entire market, albeit at a cost. As a result, investors may find that they have greater freedom to implement short-term trades using ETFs.”
Howie Li, executive director and co-head of ETF Securities’ Canvas platform, says: “It’s important investors are clear that in terms of underlying investment exposure, tracker mutual funds and ETFs are the same where the underlying index or strategy is the same. In Europe, both vehicles are generally structured as a Ucits and the investment portfolio is managed in the same way.
“What ETFs mainly do is provide features [such as] an additional layer of liquidity [intraday compared with a mutual fund] and transparency of holdings. This intraday liquidity is becoming more important to investors who want to know the exact cost and want precision.”
Mr Fitzgerald adds ETPs offer a greater number of unique benchmarks to track, many of which are more specialised than traditional benchmarks. This has contributed to the evolution of passive products including the development of smart beta or fundamental ETF strategies.
He explains: “Investors should note that the indexing concept has expanded greatly to include a large number of non-traditional, non-market-cap-weighted indexes. Such indices represent rules-based active strategies that attempt to outperform traditional market-cap-weighted benchmarks in some way, including by higher returns or lower volatility.
“ETFs that track these indexes are classified as index products because they seek to track an index, even though the index itself may reflect an underlying active strategy. This has effectively blurred the lines between traditional index strategies and active management.”
Nyree Stewart is features editor at Investment Adviser
