The ETF observer: Deborah Fuhr

Consensus points to a positive future for the ETF/ETP industry

Growth in the ETF and ETP industry in the Asia Pacific (ex-Japan) region is up only 6.8% year-to-date (YTD) through the end of November 2013 (Source: preliminary data from ETFGI’s global ETF and ETP monthly insight report end of November 2013 report (www.etfgi.com)). This is well below the 36.9% compounded annual growth rate the region experienced over the past ten years, but there are many reasons to be optimistic for the future of ETFs and ETPs in the region. 

Assets invested in global ETFs/ETPs had reached a new record high of US$2.4 trillion at the end of November 2013, although the increase in assets in 2013 YTD at 21% is lower than the 29.6% compounded annual growth rate over the past ten years. Net flows and asset allocation in 2013 has been significantly driven by investor uncertainty as to when and how the Federal Reserve will taper its quantitative easing (QE) scheme.

In November 2013, ETFs/ETPs in the Asia Pacific (ex-Japan) region saw net inflows of $71 million and YTD through end of November 2013, ETFs/ETPs saw net inflows of $5.16 billion, which is well below the US$18.79 billion in net inflows at this time in 2012. There are now 499 ETFs/ETPs, with 626 listings, assets of $94 billion, from 96 providers on 14 exchanges in the region.  

A week ago [02/12/12] I returned to London after completing a three-country ETF road show with EY to Hong Kong, Korea and Singapore. The view in the region is still optimistic that the future for ETFs/ETPs in the region will and should be positive for investors, ETF/ETP providers, exchanges and banks and brokers that trade ETFs/ETPs. 

Reasons for the slower growth in the Asia Pacific ex-Japan region are: investor uncertainty as to when and how the Federal Reserve will taper its QE scheme; the region is the most fragmented region in the world when we consider the different regulatory and tax regimes; ability for foreigners to invest freely into various countries in the region and for local investors to invest outside of their home country; the number of different currencies, languages, investor profiles, product preferences, providers and distribution models.

Regulators in some of the countries in the region are reluctant to allow new types of products that use derivatives or offer leverage and inverse exposure. Regulations in some countries require advisers and investors to be specifically qualified to buy/sell ETFs/ETPs; higher costs to trade in the region; buy-in rules on exchanges that penalise banks/brokers for late settlement is causing many to trade on other exchanges.

There are positive signs: Trading volumes for ETFs/ETPs in the region increased by 15.2% from $1.6 billion (average daily trading volumes) in October 2013 to $1.84 billion in November 2013. Providers continue to develop and launch new products in the region. YTD through end of November 2013, 83 new ETFs/ETPs have been launched by 38 providers. Including cross listings, there have been 91 new listings from 39 providers on ten exchanges.

Reasons for optimism

The Philippines’s first ever domestically listed ETF, the First Metro Philippine Equity Exchange Traded Fund, which aims to track the country’s main stock market index, was launched on December 1. In India, the government is putting its weight behind the local ETF industry with several initiatives, starting with plans to create an ETF and introducing incentive schemes to attract retail investors. It is also applying rules similar to the UK’s Retail Distribution Review and lowering transaction costs on ETFs while changing regulations to allow institutional investors, such as insurance companies and mutual funds, to invest in ETFs.

The proposed new ETF, which is expected to launch soon, will be based on shares of listed central public-sector enterprises. The government has appointed ICICI Securities as an adviser, India Index Services & Products as the index provider and Goldman Sachs Asset Management as the asset manager and provider of the Central Public Sector Enterprises (CPSE) ETF.

The ETF will be designed to track a benchmark that is being created from a selection of the 50 public-sector bodies listed on stock exchanges in India. These businesses account for about 17% of the market cap, but it is expected that only public enterprises that are liquid and where the government owns more than 50% will be considered for the benchmark. Public-sector banks will not be included.

The government wants the ETF to be attractive to both retail and institutional investors as it offers diversification and reduces concentration risk. It is expected that the CPSE ETF will be launched as a new fund followed by further tranches providing loyalty discounts. In June, the securities transaction tax on ETFs and mutual funds was reduced from 0.25% to 0.001%.

The Indian government wants the ETF to be attractive to both retail and institutional investors as it offers diversification and reduces concentration risk. It is expected that the CPSE ETF will be launched as a new fund followed by further tranches providing loyalty discounts. In June, the securities transaction tax on ETFs and mutual funds was reduced from 0.25% to 0.001%.

The country’s Ministry of Finance has announced that it is working with domestic regulators to allow insurance companies and mutual funds to invest in the ETF, which will open a new pool of assets to the product.

Retail use of ETFs has been growing since the introduction of RDR-like regulatory changes that ban the payment of distribution fees to financial advisers selling financial products and require greater transparency on fees. Foreign investment by retail investors is typically restricted to $200,000 per year but ETFs listed in India tracking the Nasdaq 100 and Hang Seng index are making it easier for individuals to get exposure outside India and benefit from diversification.

The greatest perceived opportunity in the Asia Pacific ex-Japan region for many asset managers and exchange traded fund providers is development of the mutual recognition regime with China.  As I have mentioned previously a number of people expressed a view that an ETF(s) might be the first product to be offered via the mutual recognition scheme.

For the use of ETFs/ETPs to continue to grow, the biggest need is for more education of regulators, institutional investors, financial advisors, and retail investors on ETFs/ETPs structures, benchmarks, when and how ETFs and ETPs can be used and how to trade them.

On an absolute and relative basis, ETFs and ETPs have done well in 2013. We forecast a bright future for the growth in use of ETFs/ETPs in the region as well as globally as they are one of the most useful financial innovations in the past 25 years.

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