www.etf-magazine.com APRIL 2016 ISSUE 03
A G u i d e t o E x c h a n g e Tr a d e d F u n d s
W
R T H E E T S A M
MARKET VOLATILITY ADVISERS CAN UTILISE ETFs TO DEAL WITH TOUGH MARKETS
S E V A
THE REAL IMPACT OF THE FED RATE RISE
T HE ETF
DOCTOR
FOR TODAY’S DISCERNING FINANCIAL AND INVESTMENT PROFESSIONAL / LATEST NEWS
I am currency hedged. Access a range of well diversified, liquid and currency hedged investments. UBS ETFs. With exchange traded funds (ETFs), you can add almost any index in the world to your portfolio. Exchange-rate fluctuations can reduce investment returns. It is comforting to know that you can hedge against foreign exchange risk: with currency-hedged UBS ETFs.
ubs.com/etf For marketing and information purposes by UBS. For Professional Clients only. It is not to be distributed to or relied upon by Retail Clients under any circumstances. This document has been issued by UBS AG, a company registered under the Laws of Switzerland. Issued in the UK by UBS Global Asset Management (UK) Ltd, authorised and regulated by the Financial Conduct Authority. This document is for distribution only under such circumstances as may be permitted by applicable law. The products or securities described herein may not be eligible for sale in all jurisdictions or to certain categories of investors. Source for all data and charts (if not indicated otherwise): UBS Global Asset Management. Š UBS 2015. The key symbol and UBS are among the registered and unregistered trademarks of UBS. All rights reserved. E8
16 The best way to make
04 Welcome
money out of oil
Do exchange traded products really deserve their critics? Asks Editor-in-Chief Michael Wilson.
06 News A monthly round-up of ETF news from ETF Securities and Roubini Global Economics
As oil prices fall to new lows, investors are wondering if it’s the time to buy, says Darius McDermott, Managing Director at Chelsea Financial Services.
20 The real impact of the Fed rate rise
Asset classes are moving into uncharted territory following the first US interest rate rise in a decade, says James Butterfill, Head of Research and Investment Strategy, ETF Securities.
12 How to use ETFs to deal with market volatility
Markets are tough, says Marc Knowles, director of ETFs at BMO Global Asset Management, but advisers can utilise ETFs to reduce volatility in client portfolios
23 Using ETFs to meet the income challenge
The search for income has never been more difficult, says Roger Bootz, Head of Public Distribution for Passive Investments, EMEA, at Deutsche Asset & Wealth Management, but ETFs can help track it down.
The best way to make money out of oil p16
26 The ETF Doctor By Dr Chris Mellor, Equity Product Management at Source
14
Embracing ETFs: How advisers are using the funds The barriers to using ETFs are finally falling and advisors are jumping on board, says Dominic Clabby, Head of UK Retail at Source.
ETF Magazine is published by IFA Magazine Publications Limited, The Tobacco Factory, Loft 3, Bristol BS3 1TF
ETF Magazine is for professional advisers only. Full subscription details and eligibility criteria are available at www.etf-magazine.com +44 (0)117 9089 686 ©2016. All rights reserved.
27 Features ETFs We pick a selection of ETFs from around the world to highlight some available funds
Editor-in-Chief: Michael Wilson editor@ifamagazine.com City Editor: Neil Martin neilmartin@ifamagazine.com Commissioning Editor: Michelle McGagh Publishing Director: Alex Sullivan alex.sullivan@ifamagazine.com Design: Fanatic www.fanaticdesign.co.uk ETF Directory: To place an ETF directory lisitng please contact: richard.morris@ifamagazine.com simon.broch@ifamagazine.com
ETF Magazine is a trademark of IFA Magazine Publications Limited. No part of this publication may be reproduced or stored in any printed or electronic retrieval system without prior permission. All material has been carefully checked for accuracy, but no responsibility can be accepted for inaccuracies, independent research and where necesary legal advice should be sought before acting on any information contained in this publication.
April 2016 · www.etf-magazine.com 3
ED’S WELCOME
The Trouble With Mr Average The good news: in a year when sales of bullion-based exchange traded products have been so vigorous – most of them physical rather than synthetic, we should add – it seems hard to dispute that both private and institutional investors are now using the exchange traded concept in a defensive but also an active and creative way. Maybe that isn’t so surprising, given the meltdown of confidence in China’s financial regulators or the worries about currency instability that seem to be plaguing the world. After all, it’s at times like these that the hedging value of ‘alternative currencies’ like bullion come into their own. And although we might balk at the idea of investors trying to time the market, we’d have to admit that this is a perfectly legitimate use for an ETP. The bad news, according to some, the clients are trying to do pretty much the same thing with oil ETPs, and they’re causing havoc and instability in the process. The problem here is not simply that all oil-based commodity funds are synthetic – because, of course, you can’t keep a tanker-load of oil in your basement – but rather that oil synthetics are based on derivatives which are inextricably linked to the future expected value of the black stuff, rather than to its current value. Let’s try not to get tangled up with oil futures issues like contango and backwardation, both of which are guaranteed to make the average client’s head spin; and let’s focus instead on the bigger issue - which, according to some, is that the very presence of these ETPws is itself distorting the commodity markets and creating unhelpful price crises. Why? Well, say the pundits, it’s because if you took the combined value of the physical market for oil and added it to the combined value of the derivative markets, you’d have more “oil” than the real world possessed. (And the same for gold.) Derivative products, they say, are effectively leveraging up the demand for “oil” and “gold” to an extent which has significantly helped to create this year’s seesawing commodities environment.
To understand this argument, let’s take it to its stupidly logical extreme. If everybody in the world decided to back index trackers rather than the underlying equities, there’d be nobody working on the fundamentals any more, and nobody actively working with risk. As soon as the good ship Footsie shifted a degree or two to starboard, every tracker that shadowed it would lurch automatically to starboard, and that in turn would create new buy and sell pressures. At which point every program trading algorithm would say to itself, “hey, the Footsie’s shifted again – I’d better start buying into that trend.” And, of course, you’d have mayhem within minutes as everybody rushed to starboard and the boat swiftly overturned. The reason it doesn’t overturn, they say, is that there are good honest fundie watchers out there who have the nerve to go against the herd and show us when the stampeding herd has got it wrong. What we don’t seem to see is that ETF (and ETP) investors are largely innocent. Because there just aren’t enough of them to make a difference. The entire $3 trillion of global AUM would amount to just one tenth of the market capitalisation in America’s two biggest exchanges – or a little less than London, Tokyo, EuroNext, Hong Kong or Shanghai. Is that enough to make a critical difference? No, I don’t think so. Do you? Sincerely Michael Wilson, Editor-in-Chief
Trouble Amidships
Now, maybe that’s just scaremongering. But let’s turn our attention to a more recent objection, to the effect that passive equity trackers such as ETFs also have the potential to upset the boat if they become too popular, and that “somebody ought to do something about it” before they plough us all into some deep midAtlantic trench. Sept 2015 · www.etfmagazine.com 4
Innovation in ETFs Being independent allows us to collaborate with leading investment partners and bring fresh and innovative products to the Exchange Traded Fund market. Whether you’re looking to pick a new investment idea, or a better approach to an old one, try Source, the ETF innovators. To find out how Source products could benefit your portfolio, speak to your adviser and visit www.sourceetf.co.uk
Source products place your capital at risk. Investors may not get back the original amount invested. Please discuss all investments with your fi nancial adviser. Source ETFs are UCITS compliant and recognised under s.264 of the Financial Services and Markets Act 2000. You should refrain from entering into a transaction unless you have fully understood the associated risks and have independently determined that the transaction is appropriate for you. You should read all relevant prospectus information prior to investing. The prospectus documentation describing the structure, risks and related costs of Source products is available for residents of countries where such products are authorised for sale at www.sourceetf.co.uk. Source products may not be sold to US persons. This advertisement has been issued by Source UK Services Limited, 110 Cannon Street, London EC4N 6EU, authorised and regulated by the Financial Conduct Authority.
News
ETF
A round up of the latest industry news
Gold Remains Attractive in Volatile Markets Investors are continuing to flock to haven assets and exchange traded products flows remain strong says ETF Securities. The firm’s gold ETPs are still experiencing inflows for the seventh consecutive week amid volatile equity markets. ETF Securities’ Head of Research & Investment Strategy James Butterfill said: “While gold appears fairly valued according to our models, the risk of a sudden shock to cyclical markets could send gold prices considerably higher. Investors are buying into gold as an insurance asset – a hedge against what were seen as tail-risks which are now emerging. Fears over anti-establishment governments strengthening or a dislocation in financial markets are some of the concerns on investors’ minds. “Despite a rise in the S&P500 and a decline in optionimplied equity market volatility, we continued to see inflows into gold ETPs last week, as investors focus on the shoring up of defensive positions in their portfolios. The European Central Bank’s commitment to price stability through what will likely be more rounds of quantitative easing and negative interest rates will likely be price-positive for gold. Gold serves as a hard asset store of value – a monetary asset that investors may prefer to hold instead of a currency they feel is being debased.” Head of ETCs Townsend Lansing said: “We have seen over US$1 billion net inflows into our gold ETPs since the start of the year, representing 55% of all flows into European gold ETPs in 2016, with Gold Bullion Securities (GBS) being the most actively traded gold ETP in Europe YTD.” “Gold has always been the foundation of our offering and we’re delighted to see that investors continue to consider ETF Securities as a leader in this space.”
6 April 2016 · etfmagazine
Two-Year Anniversary Marked By Women In ETFs The two-year anniversary of Women in ETFs (WE) has just been marked. Members attended a breakfast event at Inside ETFs conference in Hollywood, Florida. Members heard how WE expanded its numbers throughout 2015 and added 900 new names, increasing the total to 1,600. The bulk of the membership works in the US (chapters in Boston, Chicago, New York, San Francisco and Washington represent 60% of current membership), whilst 21% work in Europe, 9% in Canada and 10% in Asia Pacific. Deborah Fuhr, Managing Partner of ETFGI and WE CoFounder said: “The success we have enjoyed in this short period has exceeded all our expectations and validates the desire of women to build and expand their networks and skills for their professional advancement. We also have 10% male members from the ETF ecosystem that are engaged in and support the advancement of women.” Some 200 members attended the breakfast and participated in discussions on trends in the ETF industry. A polling survey revealed that Smart Beta was the top driver for the ETF flows in 2016. What’s more, growth in the ETF industry is coming from investors switching from mutual fund assets, Robo Advisers, and increased use of ETFs by pension funds, endowments, and foundations. The key challenge for the ETF industry in 2016 were regulatory concerns agreed the members. Sue Thompson, Senior Adviser to BlackRock and WE Co-Founder and outgoing Co-President, said: “We have been fortunate to have significant support from ETF industry firms for our over 50 events last year that included educational panels and networking opportunities for members.” Joanne Hill, Head of Institutional Investment Strategy at ProShares and WE Co-President & Co-Founder said: “WE is looking forward to a great 2016 ahead, including a partnership with The United Nations in honor of International Women’s Day on March 8, 2016, where WE again will “Ring the Bell for Gender Equality” at various securities exchanges around the globe. WE will also expand its reach in education and professional development with its webcast platform.” A number of ETF industry firms provided financial and in-kind support for Women in ETF events, including PowerShares QQQ, State Street Global Advisors SPDR, Citi, iShares, Jane Street and Vanguard.
Dwyer Heads List of Promotions at Source Kate Dwyer has been promoted to Executive Director (UK coverage team), at Source, one of Europe’s largest providers of Exchange Traded Funds. Source says that the promotion is in “…recognition of the significant contribution Kate has made to the growth of Source in the UK and the opportunities the firm sees for its unique range of ETFs in the market.” Dwyer joined Source in 2013. Her promotion is one of a number just actioned by Source (see list below). Managing Director and Head of UK coverage at Source David Lake said: “Kate has a played a significant part in development of our successful UK operation. Source believes it has the best team in the ETF industry with an unparalleled level of talent and she fully deserves this recognition.” Name
Department
Promoted to
Sascha Specketer Kate Dwyer Paul Ridley Adam Glen-bott Abdallah Muhammad Alex Olivares Brooke Petersen András Vig Fabrizo Arusa Dennis Bergot Jennie Chan Antoine Boulet Craig Cheesman Alistair Currie Nadav David JD Vincent Michael Winstanley
Coverage Coverage Strategy IMG Coverage Marketing Marketing Research Coverage Marketing Marketing Coverage IMG Finance Coverage Marketing Marketing
Managing Director Executive Director Executive Director Director Director Director Director Director Director Director Director Associate Associate Associate Associate Associate Associate
Record Inflows for ETF Securities Since the start of the year, ETF Securities, one of the world’s leading, independent providers of ETPs, has announced record YTD net inflows of over $1 billion. Most notable are $720 million into gold linked ETPs (99% into physically backed ETPs) and over $320 million into oil linked ETPs. ETF Securities also reported that today, it also saw its highest ever one day net inflow, of $345 million into its gold linked ETPs. CEO Mark Weeks said: “While our strategy has been to become a genuine multi-asset provider by diversifying into other asset classes, commodities and especially gold remains the cornerstone of our offering. We believe this performance, while undoubtedly aided by current market conditions, is also due to the ongoing investment we have made in strengthening our distribution and research capabilities.” Head of Research James Butterfill said: “We expected an improved performance for gold in 2016 and it’s certainly starting to materialise. We believe that Janet
Lingering Weather Could Provide Upside Price Risks, according to El Nino
According to Director – Commodities Strategist at ETF Securities Nitesh Shah, lingering weather impacts from El Niño could provide upside price risks for cocoa in the short-term as the market has underestimated the impact of dryness on the mid-crop which will be harvested from May in most of Africa. He said: “We are currently in the one of the most extreme El Niño events on record (with records dating back to 1950). El Niño refers to the warm phase of the El Niño-Southern Oscillation (ENSO) which is a scientific term that describes the fluctuations in temperature between the ocean and atmosphere in the east-central Equatorial Pacific. The warm phase of the ENSO has led to droughts in Asia and excess rain in South America, leading to a 50% rally in sugar prices between August and December 2015 for example. According to the Australian Bureau of Meteorology, out of the past 26 El Niño events since 1900 approximately 40% have been followed by a La Niña, the cold phase of ENSO. “As El Niño fades, La Niña weather conditions look increasingly likely to emerge later in the year. La Niñas that reach a ‘medium’ strength by northern hemisphere winter tend to help the production of grains, coffee and cocoa. We caution investors however, to wait for a confirmation that the weather pattern will emerge as early as winter 2016/17. If the weather event is delayed until spring/summer 2017, then the price impacts could be very different. Remember, the El Niño expected in 2014 did not emerge until 2015.” Yellen’s testimony today regarding the trajectory for the US Federal Reserve monetary policy and wider central bank monetary policy effectiveness are bringing financial market stability worries to the fore. This comes amid heightened concerns for European bank liquidity, the risk of a Brexit and the uncertainty regarding the US presidency candidates. Consequently, investors are returning to gold as a core diversifier and safe haven investment. Given the increasingly challenging investment and economic environment, we expect this trend to continue.” April 2016 · www.etf-magazine.com 7
New ETFs Provide Targeted Exposure to US Sectors
Source has just launched two new US sector ETFs providing targeted exposure to the financial services and real estate sectors of the S&P 500 equity index. Source pointed out that the US sectors are one of the most actively traded market segments in the world, with around $6 billion worth of sector ETFs traded each day. Equity Product Manager at Source, Christopher Mellor said: “The drivers of equity market returns typically shift along with changes in the economic climate and investor risk appetite. Some sectors tend to behave differently during certain phases of the cycle, and investors wanting to take advantage of this sector rotation are able to adjust their portfolio exposures through sector ETFs. These have been extremely popular tools for our investors, who currently have more than $1.6 billion of assets across our range of US sector ETFs.” Source said in a statement: “Each Source US Sector ETF aims to deliver the performance of the relevant S&P Select Sector Capped 20% Index. Weightings are based on market capitalisation, but with the maximum weighting of individual constituents capped to ensure UCITScompliance. The indices have shown high correlation with the (uncapped) S&P Select Sector Indices, which are used as the underlying for many US-listed ETFs but are not UCITScompliant. The performance track records of Source US Sector ETFs compared to their reference indices have been consistent, with tracking errors typically less than 0.003%.”
New Emerging Markets Sovereign Bonds ETF on LSE A new ETF has been listed on London Stock Exchange by UBS Asset Management. The UBS ETF (LU) Barclays USD Emerging Markets Sovereign UCITS ETF offers investors access to sovereign and quasi-sovereign bonds from more than 60 emerging markets countries. More than 100 securities currently make up the index. UBS says that this ETF allows investors easy access to these bonds in a cost-efficient wrapper. In statement, UBS said: “Index constituents are denominated in US dollars as opposed to the respective local currencies. Country restrictions are used in order to guarantee a representative investment in sovereign emerging markets at global level: investments in a single emerging market country may not exceed 3% of the index. Furthermore, illiquid market segments are removed at the index level via a stringent liquidity filter. This provides investors with transparent and flexible access to emerging markets government bonds.” Head of UBS ETF Sales for UK & Ireland Andrew Walsh (pictured below) said: “The addition of the UBS Barclays USD Emerging Markets Sovereign UCITS ETF continues our expansion in the fixed income space and offers our clients a simple way to access USD-denominated government debt issued by emerging economies with competitive pricing. The underlying index the ETF tracks provides a more balanced set of country weightings than an un-capped index of this sort. For example, countries such as Turkey, Indonesia, Russia and Mexico would normally have weights in the high single-digits, but our ETF will only have a 3% maximum exposure to such countries’ debt issuance. Conversely, smaller EM sovereign issuers such as Chile, Uruguay and Sri Lanka will have higher relative weights than they would have in an uncapped index.”
Record Demand for Gold ETF Last Month There was record demand for the Source Physical Gold P-ETC (SGLD) product last month. Source, one of Europe’s largest providers of Exchange Traded Products, said that SGLD was the most actively traded gold Exchange Traded Commodity (ETC) in Europe so far this year. It saw the largest inflows of any European gold ETC, attracting $300 million of new assets in January. This compares to less than $250 million of inflows throughout 2015 and total assets in the product now stand at more than $2 billion. What’s more, SGLD saw $8 million average daily turnover on-exchange in the past six months. As much as $97 million was traded in a single day. 8 April 2016 · etfmagazine
Source’s Christopher Mellor: “ETFs are a great barometer of market sentiment. Given the challenging start to 2016 and nervousness in the markets, there is clearly a renaissance in gold as a haven. We have seen record demand for our gold product, with investors attracted to its very low cost and high liquidity. Given the on-going concerns over the global economy, we expect demand to remain strong.”
UBS Adds Eight Currency-Hedged ETFs
UBS Asset Management has added eight currency-hedged ETFs to its Alternative Beta offering. They are listed on the London Stock Exchange. UBS said in a statement that with these new investment solutions, investors can gain exposure to systematic factor strategies on the US and Eurozone equity markets whilst also benefiting from the ability to hedge currency risk in British pounds. What’s more, these GBP-hedged funds add to the existing suite of alternative beta ETFs listed by UBS Asset Management in September 2015. They have been jointly developed with index provider MSCI. They are based on the concept of factor premiums, which has been developed by academics over several decades. The fundamental idea behind this investment approach is the realisation that certain market factors systematically contribute to excess returns versus standard market cap weighted indices. The UBS statement expanded on the theory: “Currency fluctuations can have a major impact on investment returns with more proactive global monetary policy exacerbating currency volatility in recent years. From September 2010 to September 2015 a French or German investor in the MSCI European Monetary Union (‘EMU’) index would have enjoyed an annual return of +6.38% while an unhedged GBP investor in that index would have seen annual returns of just +3.45%. Had the MSCI EMU GBP hedged exposure been chosen, the annual return for the UK investor would have been almost identical to the 6.38% experienced by the local European investor.” Head of UBS ETF sales UK & Ireland Andrew Walsh said: “It is becoming increasingly evident that ‘Alternative Beta’ or ‘Factor Investing’ is a category that is growing in interest for clients and will increasingly be considered a core part of portfolios. With our experience and success in building and delivering currency-hedged solutions, expanding our suite of Alternative Beta ETFs to include embedded currency hedging was a logical next step. Our investors here in the UK will now be able to access specific targeted factor risk-premia in the US and Eurozone equity markets whilst managing currency risk.”
ETF Provider Source Appoints New Country Heads Source has appointed six new country heads as it boosts the service offered to its investors across Europe. Source is one of the largest providers of Exchange Traded Funds (ETFs) in Europe and has grown its coverage team to now nearly 30 individuals, representing a third of Source’s total employees. The new heads are: • David Lake, Managing Director, Head of United Kingdom; • Marco Mautone, Managing Director, Head of Switzerland; • Sascha Specketer, Executive Director, Head of Germany & Austria; • Ludovic Djebali, Managing Director, Head of Frabelux; • Stefano Caleffi, Executive Director, Head of Italy; • Sjef Pieters, Executive Director, Head of Scandinavia & The Netherlands. Additionally, Source has also established two new functions to complement and leverage the expertise within the coverage team. Stefan Garcia, Managing Director, becomes the Head of Market Development, while Ludovic Djebali, Managing Director, takes on responsibility for Key Account Management across Europe as well as heading the Frabelux region.
President of Source Peter Thompson said: “Last year, Source launched its largest-ever advertising campaign, focussed on raising investors’ awareness, especially in the UK. The new country head structure will enable us to grow even closer to our investors in key markets and, in so doing, better understand their needs and respond to them more effectively. “The ETF market in Europe is changing at pace, with whole new segments of investors waking up to the benefits of ETFs. We will continue to invest as these markets grow and provide the outstanding service that their investors require and expect. “As our business continues to grow, we recognise the fundamental need and value of being closer to our investors. The new team structure will provide that not only from a geographic coverage and location perspective but also as it relates to different investor segments. We’ve been delighted with the response and impact the opening of our Zurich office had last year, and we hope to build on that successful model.” April 2016 · www.etf-magazine.com 9
Lombard Odier IM and ETF Securities Broaden Product Range
Wenger Joins State Street Global Advisors
The ETF product range offered by the Lombard Odier Investment Managers and ETF Securities partnership has been broadened and now includes a listed a GBP hedged version of the ETFS Lombard Odier IM Global Corporate Bond Fundamental GO UCITS ETF (‘the Fund’) which is listed on the London Stock Exchange. The partnership says that the GBP hedged share class of the fund provides a means of gaining exposure to foreign assets while providing greater investor protection against the impact of adverse currency movements. This allows investors to obtain a purer exposure to the underlying asset. Head of Fundamental Fixed Income at Lombard Odier IM Kevin Corrigan said: “The continuing volatility of currency markets has driven bond investors to seek solutions which provide greater protection from adverse fluctuations in foreign-exchange rates. By using a hedged share class, an investor is safeguarded from a divergence in performance between the index returns in its local currency and the returns of a non-hedged ETF product that is listed in a different currency. The ongoing success of the partnership with ETF Securities has added to our ability to develop these solutions which directly address investor needs.” Co-Head of CANVAS at ETF Securities Howie Li said: “With increased currency volatility in 2015 that’s likely to continue this year, portfolio managers have become keenly aware of the impact of foreign exchange movements in their portfolios. This latest development in our range of smart beta fixed income ETFs is in response to the investment community’s need to manage their currency risk. ETPs are proving a popular choice for currency and currency-hedged investments. ETF Securities currently has more than $500m of AUM across its range of currency-hedged and foreign exchange ETPs and extending this to our fixed income ETFs with Lombard Odier IM enables us to continue to support our investors’ needs across different asset classes.” The partnership was launched in March last and since then, a number of transparent, cost-effective and UCITS-compliant fundamentally-weighted fixed income ETFs have been listed across Europe: • ETFS Lombard Odier IM Global Corporate Bond Fundamental GO UCITS ETF [LOFGLUIG] • ETFS Lombard Odier IM Euro Corporate Bond Fundamental GO UCITS ETF [LOFEUCP] • ETFS Lombard Odier IM Global Government Bond Fundamental GO UCITS ETF [LOFUOEC] • ETFS Lombard Odier IM Emerging Market Government Bond Fundamental GO UCITS ETF [LOFEMLU] • ETFS Lombard Odier IM Euro Government Bond Fundamental GO UCITS ETF [LOFEURG].
State Street Global Advisors has appointed Bernhard Wenger as head of SPDR ETFs in Switzerland. SSGA is the asset management business of State Street Corporation (NYSE: STT). Wenger is based in Zurich and will report to Alexis Marinof, EMEA head of SPDR ETFs, and Stan Hlad, head of SSGA Switzerland. He will be responsible for business development and sales of SPDR ETFs in Switzerland, which listed 16 ETFs on the SIX Swiss exchange last year. Wenger moves from ETF Securities, where he was appointed head of European distribution in 2014, with responsibility for running the firm’s sales and business development activities in continental Europe. He has also held senior roles at Morgan Stanley, HSBC and BNP Paribas. Marinof said: “We are very pleased to welcome Bernhard to our team. With more than 15 years of experience in the financial industry, including senior positions among renowned ETF providers, he brings a depth of knowledge, which further supports our presence amongst institutional and wholesale investors in Switzerland. “With increasing inflows into passive management, the ETF market is more dynamic than ever and Bernhard’s appointment is part of our continued dedication to this market across all client segments. It remains a major focus of our 2016 strategy.”
10 April 2016 · etfmagazine
In a world of uncertainty, there is always
Gold The original hedge
ETF Securities is a global pioneer in exchange traded products (ETPs) having developed the world’s first gold ETP in 2003. To help investors of all types best meet their investment objectives, we offer a range of gold linked ETPs delivering a variety of exposures.
etfsecurities.com/gold
This communication has been issued and approved for the purpose of section 21 of the Financial Services and Markets Act 2000 by ETF Securities (UK) Limited which is authorised and regulated by the United Kingdom Financial Conduct Authority.
April 2016 · www.etf-magazine.com 11
Investments may go up or down in value and you may lose some or all of the amount invested. Past performance is not necessarily a guide to future performance. You should consult an independent investment adviser prior to making any investment in order to determine its suitability to your circumstances.
How to use ETFs to deal with market volatility Markets are tough, says Marc Knowles, Director of ETFs at BMO Global Asset Management, but advisers can utilise ETFs to reduce volatility in client portfolios
The ETF industry had another record-breaking year in 2015. The availability of ETFs that can diversify portfolios and provide precise exposures make them effective portfolio construction tools for investors. The global ETF market grew to over $2.9 trillion as of December 2015, with a record level of $372 billion in new assets last year – a 10% increase over the previous year. With shifting global market trends, 2015 proved to be another exceptional year for the ETF industry, signalling that investors are continuing to shift allocations in their portfolios
12 April 2016 · etfmagazine
using ETFs to react to market news, while continuing to hold ETFs as core positions too to maintain exposure.
Market Volatility and ETFs
A number of turbulent market events in 2015 captured the attention of investors, from China’s ‘two steps forward, one step back’ approach to deregulation of capital markets and large scale interventions, to the US Federal Reserve’s ‘will they – won’t they’ approach to raising interest rates. ETFs are an effective trading
tool for positioning portfolios and addressing these market concerns. Increasingly investors are using ETFs as liquidity tools, rather than trading the underlying securities, recognising the trading efficiency of ETFs, particularly in more difficult-totrade asset classes. As market volatility persists, both investors and regulators are looking at ETFs, as well as mutual funds to try to assess the risks within portfolios. ETFs have several significant benefits that help to mitigate the risks of the underlying holdings.
As ETFs mature, more of the trading activity occurs on the secondary market; between buyers and sellers that meet on the exchange. This differs from many other products, where investors transact directly with the fund. As such, trading activity on the exchange that balances buyers and sellers does not affect the underlying portfolio. As an added benefit, mature ETFs develop better liquidity than their underlying asset classes. In addition, ETF portfolio construction typically lowers risk relative to other products. By investing in a diversified portfolio of securities ETFs aim to provide exposure to an entire market, not just to a subset of securities. With more difficult-to-trade asset classes, ETFs further enhance liquidity by following indexes with higher liquidity thresholds, such as the Barclays Very Liquid Index (VLI) family.
combinations that provide in-demand market exposures and enhanced risk and return characteristics.
The growing popularity of smart beta ETFs is helping investors to manage volatility. Smart beta ETFs provide factor-based exposure to markets, by screening and weighting securities to adjust risk levels or enhance factor weighting. As demand for these products has increased, providers have been able to launch factor exposures across markets. Single-factor ETFs remain effective tools for increasing income, adjusting risk levels, or modifying growth characteristics. As a way to deal with fluctuating markets, low volatility ETFs help holders to remain invested in equity markets, with less exposure to market volatility. In particular, ETFs built around low-beta stocks are designed to cushion against broad market downturns. Multi-factor smart beta ETFs are now available, giving more ways to access the market. For example, dividend and quality factor blends aim to provide income and market growth, with the added benefit of lower portfolio volatility. Providers and index developers will continue to explore factor
Interest rate curve and credit positioning has become more important in portfolio construction as a result of these factors. The ETF industry, while traditionally offering broad exposure bond ETFs, has evolved toward the delivery of precise positioning tools, slicing the credit spectrum and segmenting by maturity to create short-term, mid-term, and long-term exposures. Fixed income ETFs have been developed to meet market demand for both global fixed income and country specific portfolios. With divergent economic growth expectations across countries, and yields remaining at low levels, investors are much more focused on identifying and investing in ETFs that provide the right exposure.
Advances in Smart Beta ETFs
Fixed income
Market volatility has similar impacts on fixed income portfolios. Economic news can have divergent impacts on short-term rates, based on current conditions, and long term rates, based on future expectations. Market risk and economic data can have different impacts for sovereign and corporate bonds, particularly as governments and agencies have increased debt loads as a result of the 2008 financial crisis.
By investing in a diversified portfolio of securities ETFs aim to provide exposure to an entire market
Impact of currency Another contributing factor to portfolio volatility in 2015 has been the impact of currency returns. Long term trends in currency pairs can significantly affect the domestic market return from global portfolios. In 2015, the US dollar appreciated against most major trading currencies, on the back of relative economic strength and expectations of further rate increases. The greenback appreciated 10% against the euro, 5% against the British pound, and was relatively flat against the yen (which had already moved 40% in the three previous years under the influence of Abenomics). Now ETF providers are taking a more thoughtful approach to currency exposure, offering hedged, unhedged, and most recently, dynamic hedging strategies. This gives investors the ability to bet not just on markets, but on currency as well.
The opportunities ahead
The growth of the ETF market, both in terms of product offerings through smart beta and currency options, and through growing investor interest and trading, is making ETFs into powerful tools for addressing market volatility and repositioning portfolios. While market participants remain focused on market and investment product risk, the unique benefits of ETF structures and exposures make them a popular choice for investors. We project the global ETF industry to double to more than $6 trillion over the next five years.
April 2016 · www.etf-magazine.com 13
Embracing ETFs: How advisers are using the funds The barriers to using ETFs are finally falling and advisers are jumping on board, says Dominic Clabby, Head of UK Retail at Source.
While IFAs may not have been early adopters of ETFs, they are starting to consider them for their clients’ portfolios. There are several reasons for it taking so long, including limited access and availability of ETFs on adviser platforms.
This is all now changing The retail investment landscape has changed fundamentally in recent years, not least because of the advent of the retail distribution review (RDR), which deemed that advisers could only continue marketing themselves as ‘independent’ if they worked on a feeonly basis. This meant ETFs, just like other types of investment, could be included in portfolios from which IFAs could draw an annual management fee. This has all played out at a time when ETFs have soared in popularity globally. Figures from industry consultancy ETFGI show that at the end of 2015, assets held within ETF/ETPs reached $2.992 trillion within 6,146 products. In Europe, the figure was $506 billion held across 2,188 products. So as ETFs become increasingly popular with the world’s investors, how do IFAs see them now? What factors will play a part in how they use them – if at all – going forwards? To answer these questions, Source recently conducted both qualitative and quantitative research among UK IFAs. It showed that ETFs still account for a small proportion of IFA clients’ portfolios. More than two in five IFAs (42%) said their clients have no exposure to ETFs whatsoever, 39% said their clients’ exposure was 1-5% of their overall portfolio and 10% said it was 6-10%. Only 3% of IFAs said 14 April 2016 · etfmagazine
their clients had more than 15% their holdings in ETFs. While the majority (73%) of IFAs said this situation has not changed over the past year, there has been some positive movement. Nearly one in five IFAs (18%) increased their clients’ exposure to ETFs versus only 3% who said it had decreased. Looking forwards, 34% of IFAs expect their clients’ exposure to ETFs to increase over the next year. Only 4% expect it to decline.
ETFs still account for a small proportion of IFA clients’ portfolios
The benefits of low-cost products that track indexes are not lost on IFAs and their clients, however. Their takeup of trackers more generally has been quite significant: more than half (55%) of IFAs said their clients had between 1-10% of their portfolios in tracker funds, with 10% saying they had between 11-15% and 24% saying they hold more than 15% in them.
The advent of the RDR
The advent of the RDR was a key driver in changing the motivations of IFAs. Nearly half (44%) of IFAs stated they had increased exposure to passive investments including ETFs since the advent of the RDR at the end of 2012. One consequence of the RDR has been that many IFAs now delegate management of their clients’ assets to discretionary fund managers (DFMs). But for the others, feedback we had in our qualitative research is that they also appreciate the RDR has brought about much more rigorous standards, especially with regards to transparency - a prominent feature of ETFs. As one IFA told our researcher:
“The biggest danger to the IFA community is all the charges – we need to be much clearer on what we charge clients.” Our research also showed which features IFAs like about ETFs. For example, they like to include them in portfolios because of their low cost and the diversification benefits they offer. When it comes to what makes ETFs more attractive when compared to other investment products, the overriding reason - according to 59% of IFAs - is their lower charges. This was followed by the innovation they offer (21%); the choice of products available (13%), better liquidity (11%), transparency (8%) and better performance (7%). Only 9% thought there are no benefits to ETFs. One third (33%) of IFAs recommended pure tracker ETFs, while 15% suggested active ETFs. Some 6% recommended smart beta ETFs, and 5% recommended ETFs that have alternative benchmarks. Favourable features of ETFs are illustrated by comments we received from IFAs, including: • “They offer tailor-made opportunities, sometimes into geographic niche markets” • “They’re fluid; you can get in and out quickly” • “ETFs are low cost and you get exposure to very specific niche markets” Interestingly, several IFAs said they now use ETFs instead of index trackers and mutual funds. They mostly use ETFs for tracking equities and expect ETFs to become more mainstream products because they are so cost effective.
Physical versus synthetic ETFs IFAs also picked up on the debate around physical versus synthetic ETFs in recent years. Generally speaking, IFAs much prefer physical ETFs because they are wary of counterparty risk. They feel synthetic products may be more problematic and volatile. So why might IFAs be averse to ETFs? Nearly half (49%) of IFAs said that a preference for actively managed products had been the main reason when they had not advised clients to invest in ETFs. Other reasons cited include: clients not fully understanding ETFs (34%); traditional investments being perfectly adequate (30%); ETFs not being available on the platform they use (21%); concerns over liquidity (17%); the IFAs themselves not fully understanding them (14%); and a failure by providers to explain clearly the benefits of ETFs (12%). Actual accessibility to ETFs is also clearly an issue. Even if IFAs wish to invest their clients into ETFs then they still need to have the ability to do so. Given ETFs are shares listed on
34%
the stock exchange, for many years it was often necessary to go through a stockbroker to invest in them. ETFs are becoming more common features on investment platforms used by IFAs but they are not yet universal. The vast majority (82%) of IFAs believed ETFs need to be more widely available on the investment platforms
IFAs much prefer physical ETFs because they are wary of counterparty risk
they use. Some 28% said there should be a significant increase in the number of these products available on platforms to help the growth of the sector. In our qualitative research, brand came across as being extremely important to IFAs. There was in fact
82% of IFAs believed ETFs need to be more widely available on the investment platforms they use
limited awareness of the range of ETF product providers and apart from the companies that they personally work with, most IFAs said they knew of only a few other providers. The main reason cited for this is a lack of time – being time-poor, they default to wellknown brands. As much as IFAs have been behind the curve in adopting ETFs, the evidence shows that this is set to change. ETFs offer fantastic value in terms of fees and choice. While they have largely been the preserve of institutional investors in the past, evidence shows that they are the strongest growth story in the asset management industry globally and one that IFAs will clearly appreciate. There is still a knowledge gap: only 1% of IFAs said that their peers generally are ‘very familiar’ with ETFs and a further 22% said they are only ‘slightly familiar’. However, this situation will no doubt change and in future, UK financial advisers will almost certainly represent an increasingly significant investor base for ETFs.
42% of IFAs said their clients have no exposure to ETFs
of IFAs expect their clients’ exposure to ETFs to increase over the next year
April 2016 · www.etf-magazine.com 15
The best way to make money out of oil As oil prices fall to new lows, investors are wondering if it’s the time to buy, says Darius McDermott, Managing Director at Chelsea Financial Services.
With the price of oil having fallen as low as $28 a barrel in February, the question on many investors’ lips is should I buy oil? And if so, how? The answer to the second part of that question really boils down to two key choices: do you invest in the commodity itself or do you buy energy equities?
The spot price versus the futures Going right back to basics, oil, like most commodities, trades with both a spot price (which is what it would cost to buy a barrel of oil today) and a future price. The trouble is, where do you store a barrel (or several hundred) of oil? So, most buyers purchase a futures contract for delivery of oil at a later date, be it next month or next year. When the forecast prices are rising, futures are described as being in ‘contango’ – meaning you are paying more than the current spot price
16 April 2016 · etfmagazine
per barrel. When the forecast prices are declining, futures are described as being in ‘backwardation’ – you are paying less than the spot price per barrel. As a contract nears expiry, market arbitrage ensures futures prices converge with the spot. Assuming the contract holder doesn’t actually want to take delivery of their barrels, they must either sell out of the contract or roll it into a new futures position.
How do you buy oil directly?
So if you’re advising individual investors that want to get direct exposure to something like Brent or West Texas Intermediate, they’re most likely looking at an ETPs or ETFs. An ETF might either buy and hold futures contracts within the fund itself as described above, or it might track a commodity index that is priced using futures prices. Either way, contango and backwardation will be relevant to profitability.
Globally, there are more than 2,000 crude oil ETF securities according to Bloomberg data, including various leveraged, hedged, long and short products – all of which will have risk/ return characteristics that need to be analysed on a case-by-case basis. The question broadly though is whether the direct buy is a good approach. The simple answer is, in my opinion, not right now. The detailed answer requires a bit more explanation.
Oil in contango
Theoretically, you ought to be able to simply buy oil when prices are on the way up and make money out of it. But think about it in the context of this example: say you invest today and the spot price of crude is $30, for simplicity’s sake. Now imagine in one month’s time the spot has risen to $40 (again, just for the sake of the example). You’ve made an easy $10 a barrel right?
Well, not quite. Remember investors buy a product that is priced using futures. So you will have effectively bought futures contracts for one month that are priced at, say, $35 a barrel. If the spot price shot up to $50 or $60 then sure, you’d come out well ahead. However, if the spot only reached $35 by the end of the month, you still wouldn’t profit because you already paid $35 for the futures. If the crude price doesn’t increase at all but stays flat at $30 or even falls, you would lose money. For this reason, the performance of a commodity ETP will rarely match the performance of the spot price and it’s rare for a commodity ETP to make a decent return when futures are in contango. As of the date of writing, the market is quite steeply in contango.
Oil in backwardation
On the other hand, if the forecast price of oil is declining—i.e. the futures are in backwardation—ETP returns have a better chance of
outperforming the spot price, at least in the short term. This is because each time a futures contract expires, the price of the next futures contract it is rolled into is cheaper and the difference can be recouped as profit. This is known as the roll yield. Roll yield will make a positive contribution when futures are
The question, broadly, though is whether the direct buy is a good approach
sloping downwards and a negative one futures are sloping upwards. Of course, you have to remember in this situation you’re still investing in a commodity that is declining in value and inevitably either the commodity becomes completely worthless, in which case all the roll yield in the world won’t help you, or supply finally begins to outstrip demand again and the futures curve moves back into contango.
Counterparty and provider risk
Now you may be thinking one month examples are all well and good, but why not consider longer periods of time where larger price rises are more likely?
It is definitely possible to find ETPs buying one and two-year futures contracts, but there are a couple of other risks to understand when buying commodity products, which can be exacerbated by a longer time frame. One of these is counterparty risk. The counterparty is usually a large financial institution, which should provide some reassurance, but we all remember what happened in 2008 with Lehman Brothers, who held many futures contracts on their books. Furthermore, when it comes to longer contracts, ETP managers have got to be confident the oil providers themselves will be liquid in one or two years’ time. In today’s environment, that’s no certainty. Perhaps the most salient point for individual investors is that when they assess an oil ETP, a lot of these factors impacting potential profits are not necessarily transparent. Individuals cannot easily see the prices of specific futures contracts held by the fund, nor with whom they are held. Nor is it easy to see crude oil futures prices, generally, without paying large sums to access professional data.
So how do you get into oil indirectly?
As mentioned initially, another way of investing in oil is to buy energy equities. Always keep in mind that the correlation
April 2016 · www.etf-magazine.com 17
between commodity values and companies’ share prices can be loose, but clients that are seeking this kind of exposure have a number of ways of going about it. Let’s take a quick look at the options. You can: • Research and buy stocks in individual companies themselves • Buy a passive energy equity index fund or ETF • Buy a specialist global energy sector equity fund. Share prices are moved by more than just oil. While the price paid for a barrel of oil will obviously affect an energy company’s revenue, stock specific factors including exploration and production costs, fiscal management, gearing and operational risks can also impact share prices. Besides this, many of the sector’s biggest players—Shell, BP, ExxonMobil, Petrobras to name a few—operate on each side of the coin, so to speak. Their exploration and crude oil production are known as ‘upstream businesses’, while a range of refinery, petrochemical and retail fuel operations are referred to as ‘downstream businesses’. So when the price of crude oil rises, upstream business revenue may increase, but overall profits may
18 April 2016 · etfmagazine
be offset by costs rises and reduced margins for downstream businesses. The point is, even if you could predict oil price movements reasonably accurately, there’s no guarantee the energy company in which you invested would follow suit. Moreover, investors that aren’t particularly knowledgeable in energy often gravitate to the sector’s blue
Don’t let speculative enthusiasm overtake due diligence and a prudent analytical approach
chips in an effort to reduce risk, even though these companies may not offer the best opportunities for returns. The same problem exists with passive, market capitalisationweighted indexes, which will naturally be ‘over-invested’ at the top end of the market.
Actively-managed funds
Actively-managed specialist energy funds, on the other hand, tend to invest heavily in small and mediumsized companies, as well as large ones. Many managers in this space advocate these stocks are better placed to capture the most attractive themes and exposures of the sector, particularly in up markets.
Over the past year or so, this approach has led most active energy funds to underperform the MSCI World Energy index, which has benefited from the relative stability of a significant weighting in blue chip stocks. As explained, these large companies are less leveraged to the oil price and therefore better able to withstand falls in the value of the commodity. On the flip side, if you anticipate the oil price is going to begin climbing again soon(ish), this lower leverage will start to work against the sector stalwarts. The small to mid-cap holdings that cause the specialist funds to be more volatile than the index also have the potential to generate greater returns on the upside. For my part, I believe a specialist energy fund such as Guinness Global Energy, which is part of the Chelsea Financial Services Selection, is one of the better ways to gain exposure to oil right now and ultimately more promising than either a direct ETP or an equity ETF. A final caution is that not all analysts do believe oil is yet due a rebound. Most of us have probably seen a news article or two in recent weeks speculating oil could go as low as US$10 a barrel. Timing these kinds of market movements is not the domain of the average individual investor (nor always the professional one, to be frank) and anyone investing should be very clear that the risks of losing money are undoubtedly high. So in answer to the first question— should I buy—if clients believe oil has hit rock bottom, by all means there are ways to take a punt, but don’t let speculative enthusiasm overtake due diligence and a prudent analytical approach.
Compatibility: Requires IOS 6.0 or later. Compatible with iPhone, iPad, and iPod touch. This app is optimized for iPhone 5. Available on Android.
Twenty Four Seven IFA Magazine, Britain’s premier online portal and print publication for financial advisers, has launched its ver y own app designed to help you stay up to date with all the latest financial and economic news as it happens.
Main Features: Reviews Features Funds Market and Economics Trading Expert FCA Compliance Jobs
The real impact of the Fed rate rise Asset classes are moving into uncharted territory following the first US interest rate rise in a decade, says James Butterfill, Head of Research and Investment Strategy, ETF Securities.
On 16 December the US central bank raised interest rates by 0.25%, with a pledge to continue a gradual pace of increases. This represented the first rate rise in a decade and a lot happened between 2005 and 16 December 2015. Global population has increased by over 400 million to more than seven billion, there have been three World Cups – with still no England win - two Olympic Games, the launch and rise of Twitter, the European debt crisis and the eagerly anticipated return of Star Wars with ‘The Force Awakens.’ Crucially, across the globe central banks are now beginning to ‘awaken’, discussing with much more clarity and certainty the potential of rate rises. The Bank of England has mooted the potential of rate rises in 2016 and the US made its first move at the back end of last year. So, what does this Fed rate rise mean and how will it impact various markets? It is clear that we entered 2016 with certainty that US official policy
20 April 2016 · etfmagazine
interest rates are going to rise over the coming months. However the Fed balance sheet has never been this vast. Most asset classes will be entering into unchartered waters during this tightening cycle. With this, the first rate rise in over a decade, there are a number of potential outcomes, some more likely than others, and backed up by previous historical instances. While
Most asset classes will be entering into unchartered waters
the adage of ‘past performance is no guide for future performance’ is true, these stats nonetheless serve as a useful reminder.
A dollar decline?
Somewhat contrary to popular belief that the US dollar sells off, it will likely begin its decline in the early stages of 2016. While there may be a short period of strength for the dollar, this is not expected to last. During four of the past five Federal Reserve tightening
cycles, the US Dollar Index (DXY) has declined in the year following the first rate hike. This is contrary to what would normally be expected in an environment with rising interest rates and certainly is contrary to current consensus for the dollar in the coming year. If the Fed does not persistently and proactively hike rates in a response to inflation pressure the party is definitely over for the dollar. Recent weakness is expected to turn into strength for the dollar in the near– term, but a peak is in sight. The dollar should strengthen, but at a slower pace in the first quarter of 2016 as inflationary pressure sees real interest rate differentials narrow. The turning point for the currency will occur when market pricing catches up to the Fed projections of rate hikes in 2016. After the first quarter, rising inflationary pressure alongside a flattening US yield curve will see the dollar decline as growth in real yield differentials turns negative.
Equities
Gold
With the belief in a decline for the dollar, this sets the scene for many other asset classes: international equities are likely to outperform US equities, sentiment towards emerging markets is likely to improve and commodity prices should rise. Research highlights that commodities have risen by an average of 12% following Fed rate rises with industrial metals the standout performer.
While the dollar is likely to decline in the medium to long term, the short term strengthening of the currency could lead to the constraining of gold
Commodities
Early signs of supply side destruction across most commodity markets are already becoming apparent. Recent price declines are likely to extend the already aggressive capital expenditure cuts. With supply deficits typically emerging approximately two years after capital expenditure growth hits a trough, the extended period of commodity oversupply is consequently close to ending. Historically low margins in the mining sector will act as a catalyst to rationalising resource extraction activity. With investor sentiment hovering near decade lows, a shift in positioning could prompt a sharp commodity price rebound.
Oil
While crude oil usually performs strongly following a Fed rate rise before becoming volatile, we are in unchartered waters, with predictions that oil could fall further. There are even some suggestions that given its current trajectory and continued uncertainty, fuel could potentially become cheaper than bottled water in the near to medium term.
The Fed rate rise will impact the US and global economies, providing opportunities in some sectors - and potential pitfalls in others
prices. Gold could post a surprising gain if the Fed doesn’t hike as aggressively as necessary to control inflation expectations. The Fed is potentially behind the curve leading to a rise in inflation. This in turn will likely mean that it will be gold price positive. As the strength of the dollar recedes during the year this has the benefit of taking some of the gold negative pressure away. Treasury yields may not rise that significantly given the role of bonds as a policy tool in this cycle.
Global impact
Global equities tend to perform well, rising on average by 6%, while US equities tend to be volatile and are typically flat by the end of the year following the initial rate hike. This time around it is likely to be similar, as US equities now look expensive on most measures and US corporates are facing margin pressures due to the increasingly competitive labour market.
The US jobs market is currently in robust, even healthy shape with wage growth already at 2.5% which is likely to further strengthen the US jobs market into 2016 and beyond. While the risk of a policy mistake is relatively low in the upcoming rate hike cycle, an error in judgement by the Fed is most likely to be detrimental to the equity market. Currently the Fed’s credibility is at stake: monetary policy should be proactive, as inflation is a lagging indicator of the state of the economy. It must be kept in mind that monetary policy also has a lagged impact on the economy of between one to two years. It is clear that the Fed rate rise will impact the US and global economies, providing opportunities in some sectors – and potential pitfalls in others. While further rises are anticipated, the timing of these are likely to be crucial. The Fed is on the frontlines of the inflation battle and it risks getting behind the curve. If the Fed is too slow in raising rates in 2016, inflation expectations will begin to gain momentum and the only cure will be for a more aggressive rate profile. Global inflation expectations are already rising and there is evidence of inflationary pressure in the system. Core and trimmed inflationary readings are around 1.7-2%. Growth projections will also help determine trajectory – the World Bank’s latest growth projection indicate that the US economy will grow by 0.2% in 2016, up to 2.7%. With all of these factors, 2016 is set to be a crucial year.
April 2016 · www.etf-magazine.com 21
Adviser’s Alpha (you make the difference)
At Vanguard we believe in the value of advice. Our research shows that you add about 3% a year in value to your clients’ returns. To find out more about our Adviser’s Alpha research and how it can help you demonstrate your value to clients, visit: Vanguard.co.uk/AdvisersAlpha or call 0800 917 5508 for more information.
Vanguard - committed to advisers vanguard.co.uk
This information is directed at professional investors and should not be distributed to, or relied upon by retail investors. This information is designed for use by, and is directed only at persons resident in the UK. Any projections should be regarded as hypothetical in nature and do not reflect or guarantee future results. Past performance is not a reliable indicator of future results. The value of investments, and the income from them, may fall or rise and investors may get back less than they invested. Issued by Vanguard Asset Management Limited, which is authorised and regulated in the UK by the Financial Conduct Authority. © 2015 Vanguard Asset Management, Limited. All rights reserved. VAM-2015-01-05-2264
Using ETFs to meet the income challenge The search for income has never been more difficult, says Roger Bootz, Head of Public Distribution for Passive Investments, EMEA, at Deutsche Asset & Wealth Management, but ETFs can help track it down. With interest rates sitting at historically low levels, investors looking to use their portfolio to generate income face a difficult challenge. A study from Deutsche Asset & Wealth Management’s (DeAWM’s) ETF strategy team however demonstrates how a carefully constructed ETF portfolio can meet the income challenge. The study was undertaken last year, but with European and UK interest rates remaining at low levels, and with only one small increase in US interest rates taking place in December, the findings are just as pertinent today.
The challenge
Fixed income is the traditional asset class used by investors for generating income. The difficulty for investors today is that most fixed income yields are at or near historic lows. The decline in bonds yields since the start of the millennium has been dramatic. For example, between December 1999 and June 2015 the annual income generated by eurozone sovereign bond indices and euro-denominated liquid corporate bonds fell by 72% and 78% respectively, while the decline in annual income from European high-yield bonds was 55%. Also, highyielding European corporate bonds generated, on average, less income in the first half of 2015 than eurozone sovereigns did in 1999. Recent declines in government bond market yields reflect falling inflation expectations. However, government
bond yields have decreased at a faster rate than inflation, resulting in lower levels of real (inflationadjusted) income. As many investors have historically relied on their bond investments to produce aboveinflation returns, this represents an additional challenge for incomeoriented investors. At the same time equity dividend yields have also fallen to near historic lows in many markets. By the end
The difficulty for investors today is that most fixed income yields are at or near historic lows
of 2014 for example the yield on the S&P Composite Index, a broad index of US equities, at 2.16%, was 52% below the average US equity market yield between 1871 and 2014, which was 4.49%, and just above the record lows witnessed during the 1999-2000 internet bubble. Income, whether in the form of interest coupons or dividends, has historically represented a substantial component of the long-term returns available to investors in bonds and equities, respectively. To see the importance of the income component of investment, the research team at DeAWM compared the average annual price return and the average annual gross return of the Barclays Global Aggregate Index, a broad index of global bonds,
from December 1989 to June 2015. The price return index measures the change in capital values of the index’s constituents, while the total return index measures the combined change in capital value plus the effect of received and reinvested interest coupons paid by the index’s constituent bonds. The difference between the annual price and gross return versions of the index therefore illustrates the effect of income over time (including the compounding of interest received). The DeAWM researchers found that $1,000 invested in a portfolio representing the constituents of the Barclays Global Aggregate Index in December 1989 would have increased to $1,139 by June 2015 as a result of bond price appreciation. Taking into account income (including reinvested income), the initial sum would have increased to $4,425 by June 2015. Income therefore contributed 96% to the change in the portfolio’s absolute value over the period. Similarly, $1,000 invested in a portfolio representing the constituents of the MSCI World Index (a global equity index) since it was introduced in December 1969 would have
April 2016 · www.etf-magazine.com 23
increased to $17,356 by June 2015 as a result of equity price appreciation. Taking into account income (including reinvested income), that initial sum would have increased to $46,644. Income therefore contributed 62% to the change in the portfolio’s absolute value over the period.
Achieving income using ETFs
Some individual ETFs are designed with a focus on generating income. High-dividend equity indices aim to produce a higher income stream than indices tracking broad equity indices. For example, the Euro STOXX Select Dividend 30 Index only selects companies with a non-negative historical five-year dividend-per-share growth rate and a defined dividend to earnings-per-share ratio. Another example is the MSCI North America High Dividend Yield Index, which, as well as requiring a track record of consistent dividend payments, also screens for certain quality factors, such as return on equity, earnings variability, debt-to-equity and recent 12-month price performance. When it comes to bond investing, there are ETFs on higher yielding bond indices where the higher return is acquired through the index tracking a portfolio of higher risk bonds relative to low-risk bonds, such as UK Gilts. There are ETFs that provide exposure to emerging market sovereign bond indices, for example, and ETFs that track high-yield corporate bond indices. There are also ETFs that single
24 April 2016 · etfmagazine
out credit risk and target high yield credit risk. Investors looking for income may also look at Reits, which are listed companies that own or finance income-producing real estate. Reits typically have to distribute the majority of their net income to shareholders, which means dividends and reinvested dividends make up a higher proportion of the total returns from than is the case with equities generally. Similarly, the equities of infrastructure companies can offer a combination of potential capital appreciation and a bondlike income stream. Infrastructure assets’ revenue streams are often inflation-linked, offering a natural inflation hedge to the owners of infrastructure equities. Because of this inherent inflation linkage, real estate and infrastructure assets are often considered alternatives to other asset classes offering long-term real returns, such as inflation-linked fixed income securities.
Combining the elements to produce a diversified portfolio DeAWM researchers examined the correlations in returns across high-income oriented asset classes over time and found a large degree of diversity in terms of the nature of the source of income (equity
dividends, bond interest coupons etc), current levels of yield, and historic risk characteristics. Whatever the risk appetite of an income-focused investor, the analysis suggested that a holistic, cross-market perspective makes sense for generating income. DeAWM’s researchers were able to create hypothetical portfolios targeting 3% and 4% yield (see table) using volatility rates between March 2007 and 30th June 2015. They
Some individual ETFs are designed with a focus on generating income.
showed that using ETFs it is possible to create an optimized portfolio focused on income, while controlling for other factors such as volatility. In other words, while opportunities to receive higher income inevitably involve higher risk, this risk can be mitigated using a cross-asset approach to portfolio construction. Thanks to the low historical correlations between a number of higher-yielding portfolio assets, ETFs can be used to create diversified, incomeoriented portfolios that provide a reasonable yield.
Table of investment indices included in the hypothetical portfolios and their weightings Portfolio STOXX® Global Select Dividend
2.9%
15.0%
Euro STOXX® Select Dividend 30
0.0%
15.0%
FTSE EPRA/NAREIT Global
0.0%
0.0%
Barclays Global Aggregate
15.0%
0.0%
iBoxx Sovereigns Eurozone Yield Plus
15.0%
7.8%
DB EM Liquid Eurobond
15.0%
15.0%
iBoxx EUR Liquid Corporate 100
13.4%
0.0%
iBoxx EUR Liquid High Yield
15.0%
15.0%
iTraxx® Crossover
8.7%
15.0%
iTraxx® Europe
0.0%
0.0%
CDX High Yield
15.0%
15.0%
0.0%
2.2%
S&P Global Infrastructure Source: Deutsche AWM, portfolio weightings calculated via an optimisation using selected income-focused indices and yield levels as at 30 June 2015. Historical volatility is calculated over the following periods: 30th March 2007 to 30th June 2015. No risk-free asset is included in the optimisation.
April 2016 · www.etf-magazine.com 25
The ETF Doctor By Dr Chris Mellor, Equity Product Management at Source
Actively managed funds have long been touted as providing the opportunity to generate outperformance, or “alpha” as it is commonly called, relative to a benchmark index. However, a recent report by Europe’s main securities regulator, ESMA, showed that as many as 15% of the 2,600 UCITS actively managed equity funds that it analysed could be classified as closet index trackers. In other words, around 400 fund managers within their study are charging investors active fees for passive performance. Would you be happy paying for a first class ticket and sitting in economy? According to Morningstar, the average active fund charges around 50 basis points (bps) more than the average passive fund. For the 85% of funds in the ESMA study that actually do deviate from the benchmark, that 50 bps is a significant hurdle to overcome, but I think it is unacceptable for the 15% that hug the benchmark. Indeed, investors recently filed a classaction lawsuit against Sweden’s second-largest fund house alleging that they had mis-sold closet index trackers. Don’t get me wrong; there is nothing wrong with a fund that tracks an index. Obviously, as a provider of Exchange Traded Funds (ETFs), these types of funds are a large part of Source’s business. However, if you want to gain exposure to an index, it makes sense to pick the ETF or unit trust that has the lowest
26 April 2016 · etfmagazine
total cost. That means finding the one that consistently delivers a return that is closest to that of the benchmark after all costs are taken into account. No product can perfectly replicate the performance of an index, but the “tracking difference” for some can be surprisingly small. For capturing that “alpha” mentioned earlier, you could stick with actively managed funds, but there are other types of passive funds that are worth considering. Here, I am referring to “smart beta” ETFs, which covers a very broad category of funds that aim to passively track an index. The smart beta indices that these ETFs track use filters and characteristics other than just market capitalisation
Many active fund managers look for the same fundamental characteristics in the stocks they pick as a smart beta fund does
to select and weight the individual constituents. Smart beta rules can be quite simple, for instance targeting a single factor such as value, or they can be quite complex, such as combining a multiple of factors within one riskcontrolled portfolio. Many of the more complex smart beta ETFs will aim to outperform a relevant market-cap-weighted index, just as an active fund would aim to do, but of course neither can guarantee success. Smart beta is a relatively new category of ETFs, although some of the underlying concepts used have existed for decades. In fact, many active fund managers look for the same fundamental characteristics in the stocks they pick as a smart beta fund does. However, this is where the similarities tend to end. The main differences are that an ETF: (1) will follow the approach strictly and without deviation, (2) is typically cheaper and (3) is more transparent. This final point is sometimes overlooked by investors. Many active fund managers might argue, rightly or wrongly, that by not disclosing their entire portfolio to the public, they are in fact protecting the interest of their investors. However, the ESMA report highlights the danger in this practice. Investors have little way of knowing how closely the portfolio is following the benchmark. In contrast, ETFs disclose their full list of holdings on a daily basis, so investors can see exactly what they are paying for.
Featured ETFs We pick a selection of ETFs from around the world to highlight some available funds
April 2016 路 www.etf-magazine.com 27
Country: United Kingdom Sector: Commodities www.etfsecurities.com
ETFS Longer Dated All Commodities GO UCITS ETF Commodities are increasingly becoming a core asset class for many investors. A low correlation with other major asset classes, strong long-term fundamentals, inflation hedge properties and the development of financial instruments that ease market access have been key factors behind the rise in commodity investing. For investors, owning physical commodities outright, however, is impractical, costly and generally involves complicated transportation or insurance arrangements. Some commodities can also be difficult or even impossible to store for long periods of time.
This ETF provides global access to a broad commodity exposure by tracking the performance of Bloomberg Commodity Index 3 Month Forward Total Return, one of the most established commodity benchmarks.
Fund Top 10 Holdings
Fund Summary Data Issuer
GO UCITS ETF Solutions plc
Inception Date
18/03/2010
Legal Structure
UCITS 0.30%
Gold
11.10% Copper (COMEX)
Natural Gas
8.63%
Soybeans
5.60%
Expense Ratio
Brend Crude
7.97%
Aluminium
4.54%
WTI Crude Oil
7.89%
Silver
4.11%
Assets Under Management
$252.8 M
Corn
7.58%
Unleaded Gasoline
4.06%
Average Daily $ Volume
$372,270
7.23%
T: +44 (0) 207 448 4373 | E: intermediary@etfsecurities.com
Gold Bullion Securities
Average Spread (%)
0.33%
Country: United Kingdom Sector: Commodities www.etfsecurities.com/gold
Gold is an important hedge during uncertain conditions, since it tends to have a low correlation to the broader economic environment. With heightened concerns around European bank liquidity and the risk of Brexit, it’s no surprise that investors are returning to gold as a diversifier and safe haven investment. Gold Bullion Securities (GBS) is designed to offer investors a simple, cost-efficient and secure way to access the gold market by providing a return equivalent to the movements in the gold spot price less the applicable management fee. GBS is backed by physical allocated gold held by HSBC Bank plc. Only metal that conforms with the London Bullion Market Association’s (LBMA) rules for Good Delivery can be accepted by the custodian. Each physical bar is segregated, individually identified and allocated.
Fund Summary Data Issuer Inception Date
31/03/2004
Legal Structure
ETC
Expense Ratio Assets Under Management Average Daily $ Volume
T: +44 (0) 207 448 4373 | E: intermediary@etfsecurities.com 28 April 2016 · etfmagazine
Gold Bullion Securities Limited
Average Spread (%)
0.40% $3,548 bn $11.2 M 0.03%
ETFS ISE Cyber Security GO UCITS ETF Cyber security has become a crucial issue in the 21st century. Cyber attacks threaten governments, companies and individuals with financial, reputational and societal damages every minute of every day. Cyber threat vulnerability is only increasing as more data, systems and people connect digitally. Since 2009 cyber attacks have increased at an annual compounded growth rate of over 66% and it is estimated that the cost of cyber crime to the global economy each year is as high as $400 billion.* The increasing demand for cyber security technology has prompted a number of high profile mergers and acquisitions, further driving the stock price performance. Negative cyber attack headlines have been bullish for cyber security stock price in the short term and business growth in the long term. Europe’s first cyber security ETF provides investors convenient access to globally diversified basket of leading cyber security companies.
Fund Top 10 Holdings
Country: United Kingdom Sector: Technology www.etfsecurities.com/cyber
Fund Summary Data Issuer
GO UCITS ETF Solutions plc
Inception Date
28/09/2015
Legal Structure
UCITS 0.75%
Cyberark Software
4.40% Barracuda Networks Inc.
3.81%
Check Point Software Tech
3.97% Fortinet Inc.
3.80%
Expense Ratio
Trend Micro Inc.
3.90% Vasco Data Security Intl
3.76%
Radware Ltd.
3.89% SAIC Inc.
3.76%
Assets Under Management
$29.65 M
AVG Technologies
3.87% Symantec Corp
3.75%
Average Daily $ Volume
$144,598
T: +44 (0) 207 448 4373 | E: intermediary@etfsecurities.com
PIMCO Short-Term High Yield Corporate Bond Index Source UCITS ETF PIMCO and Source have teamed up to deliver the PIMCO Short-Term High Yield Corporate Bond Index Source UCITS ETF, which seeks to achieve comparable levels of yield as the broader US high yield market with lower volatility and low or negative correlations with other asset classes. By focusing on high yield bonds with maturities of up to 5 years, the ETF should be less sensitive to rises in US interest rates compared to an investment in the broad bond market. Although past performance is not a reliable indicator of future returns, short-term high yield has also produced some compelling historical returns as compared to equities in a slow to negative growth environment. The ETF’s portfolio manager is Andrew Jessop from PIMCO, one of the world’s largest fixed income investment houses.
Fund Top 10 Holdings
Average Spread (%)
Country: United Kingdom Sector: US Short-Term High Yield www.sourceETF.com
Fund Summary Data Issuer
PIMCO Fixed Income Source ETFs plc
Inception Date
14/03/2012
Legal Structure
UCITS Open ended fund
Springleaf Financial Services 1.85% Ineos
1.25%
Numericable-SFR
1.81% CIT Group (15/05/2017)
1.18%
Expense Ratio
Telecom Italia Capital
1.57% Sprint Communications
1.15%
Ally Financial
1.54% Navient
1.11%
Assets Under Management
CIT Group (15/08/2017)
1.29% ConvaTec Finance International
0.99%
T: +44 (0) 207 448 4373 | E: intermediary@etfsecurities.com
0.88%
Average Daily $ Volume Average Spread (%)
0.55% $1,039.95 M $1,233,259 0.27%
April 2016 · www.etf-magazine.com 29
Country: United Kingdom Sector: European Equities www.sourceETF.com
Source Goldman Sachs Equity Factor Index Europe UCITS ETF The Source Goldman Sachs Equity Factor Index Europe UCITS ETF should appeal to investors wanting a core holding in European equities, as it offers broad diversification across Europe including the UK. The fund aims to outperform the MSCI Europe Index on both an absolute and a risk-adjusted basis, while seeking to control country and sector risk compared to relevant market-cap-weighted indices. The fund emphasises five well-known and academically supported factors: low beta, size, quality, value and momentum. Research shows that each factor has delivered outperformance versus the respective traditional beta (i.e. market-cap-weighted indices) over the long term. Unlike other multi-factor funds on the market, this fund weights the five factors so that each factor contributes an equal amount of risk, taking into account the correlation between them. The objective is a portfolio that is more diversified and more efficient than one that simply aggregates individual factor strategies. Source Goldman Sachs Equity Factor Index World UCITS ETF is also available for investors looking to improve on broad global equity benchmark performance.
Fund Top 10 Holdings
BG Group Plc ORD GBP 0.1 1.01% Unilever Plc
0.009%
BP Plc ORD USD 0.25
0.98% Unilever NV
0.009%
Total
0.95% ENI
0.009%
Henkel
0.93% Geberit
0.009%
Svenska Cellulosa
0.93% TeliaSonera
0.009%
T: +44 (0) 207 448 4373 | E: intermediary@etfsecurities.com
30 April 2016 · etfmagazine
Fund Summary Data Issuer
Source Markets plc
Inception Date
06/01/2015
Legal Structure
UCITS Open ended fund
Expense Ratio Assets Under Management Average Daily $ Volume Average Spread (%)
0.55% € 340.76 M $249,185 0.19%
Welcome to London Capital Club
Your space in the heart of the City for meeting, dining and networking
A Space for Meeting
Events & Networking
London Capital Club is the perfect location for meeting with clients over an informal coffee, a spot of lunch, or in one of our sumptuous private meeting spaces.
We host a range of networking events, as well as keynote speaker events. We have spaces for members’ events and can accommodate up to 150 delegates in a variety of room set-ups.
London and Beyond
Restaurant Fine Dining
Club members receive the same exceptional service in over 250 clubs worldwide, which make up the IAC network, as well as access to further benefits, such as discounts at some of the country’s best golf courses and hotels.
Enjoy the brasserie-style ambience in our public bar and restaurant, @15, formal dining in our members’ restaurant The Walbrook Grill, or hold a private function in one of our historic rooms for an outstanding fine dining experience.
We look forward to welcoming you to London Capital Club T: 0207 717 0088 E: enquiries@londoncapitalclub.com A: 15 Abchurch Lane, London EC4N 7BW W: www.londoncapitalclub.com Find Us:
Bank
Cannon Street
Follow us @LondonCapClub
Monument