The ETF alphabet soup
More wealth managers in Europe are using exchange traded funds (ETFs) to efficiently capture beta in their portfolios and gain broad market exposure, according to a recent report by the Edhec-Risk Institute.
The findings of the annual study revealed European institutional investors primarily use ETFs as beta tools or to implement asset allocation strategies, with few investors seeing demand for active ETFs.
Over 60% of investors, meanwhile, planned to increase their use of ETFs while only one per cent thought their ETF usage would decline.
What the results reveal
The results revealed investors have a clear preference towards ETFs over other delta one products – those which move one for one with an index – with only 25% of respondents expecting to increase exposure to futures.
Only 12% expect to use more total return swaps and only 22% expect to increase their use of index funds.
The survey included responses from 174 institutional investment managers and private wealth managers based in Europe who already use ETFs.
The majority of respondents said they primarily use ETFs to gain broad market exposures, while over half say they use ETFs for buy-and-hold investments and to implement dynamic asset allocation.
More than three-quarters want ETFs to remain transparent, liquid and low cost index tracking products while only 11% would like to see more active ETFs.
Edhec also reported 39% of survey respondents would like to see ETFs based on new indices, up from 29% in the previous year’s survey.
Investors’ wish list
Top of the wish list for investors was emerging market equity ETFs with 47% of respondents saying they would like new product developments in this area, although that number had fallen from 52% in last year’s survey. About 39% would like to see more ETFs that track niche markets.
Emerging market bond ETFs also featured strongly on investors’ wish list with 38% looking for new developments in this area, up from 37% in last year’s survey.
Other types of ETFs on the wish list include volatility, commodity and high-yield bond ETFs.
Many people have started to use the term Exchange Traded Products (ETPs) as an umbrella term that they use to cover exchange-traded funds ETFs, exchange traded notes (ETNs), exchange traded vehicles (ETVs), exchange traded commodities (ETCs), partnerships, commodity pools and other types of structures.
The study finds investors were also confused by the alphabet soup: ETFs, ETNs, ETCs, ETVs, ETPs
More education needed
Investors who buy exchange traded products (ETPs) are not sufficiently aware of the distinctions between the different types to understand the potential risk exposures of each product, according to the survey.
Only 5% of respondents felt investors were sufficiently educated to understand the distinctions between the different types to gauge the potential risk exposures of each product.
This clearly shows that there is a need for both ETF providers and regulators to promote education among investors, so they understand that the letter which comes after ‘ET’ is very important.
As this differentiates between whether the product is a fund, or a note, for example, this can create significant differences in regulatory treatment, tax and counterparty exposure.
In Europe it is also important to note that there are ETFs that are structured as Ucits funds and as non-Ucits.
As we previously discussed for a retail investor investing through his brokerage account who may not even have sight of the prospectus before trading, it is hard to know if they are buying a Ucits or non-Ucits ETF or even a product not structured as a fund.
So investors, particularly the retail investor buying on an execution only basis, need to understand the nature of what they are buying. For as long as this debate continues and we await clarification across the regulatory spectrum and the various initiatives governing this area, it is a point we shall need to revisit.