ETFs: A matter of life and death

One in six European ETFs is on a ‘death list’ due to their small number of assets. But they are unlikely to close, finds Nicholas Pratt.

Nearly half of all exchange-traded funds (ETFs) registered in Europe and launched in the last three years have failed to raise more than €100 million in assets. These 241 funds have been put on to a “death list”, but they are unlikely to close.

The concept of the ETF death list began in the United States with mutual fund adviser Ron Rowland, who publishes a monthly “death watch” of US-based ETFs and exchange-traded notes (ETNs) that are more than six months old and have an average daily traded value of less than $100,000 (€81,306). As of June 2012, the list comprised 237 ETFs and
99 ETNs from an eligible universe of 1,465 – an increase of 127% from the 148 names from a year ago.

According to Rowland, 41 of the listed ETFs have less than $2 million in assets and he imagines that “the only reason they are still around is because they don’t generate enough fee income to even pay for someone to shut them down”.

Detlef Glow, author of the European death list and head of Europe, the Middle East and Africa research at Lipper, believes ETFs are likely to be monitored for their profitability and it is unlikely they will be closed unless their sponsors have problems.

“I don’t see any of these funds being liquidated at the moment because the main providers are not facing any major issues,” he says.

Glow even says he thinks product ranges will expand as providers look to plug gaps in their portfolios.

“If you are in a growth market, you try to have as broad an offering as possible, even if some of the strategies are less successful than others.”

This is happening at db x-trackers, the ETF business owned by Deutsche Bank. Manooj Mistry, head of db x-trackers in the UK, says Deutsche Bank has been relatively active in the past two months launching new ETFs. The emphasis has been on filling gaps on both the equities and fixed income sides.

For example, recent ETF launches include some sterling bond ETFs, some US credit default swap ETFs to create exposure for specialised institutional investors and, on the equities side, sterling versions of S&P-based products. There have even been new ETFs linked to potential growth markets in Pakistan and Bangladesh.

“We have never closed any ETFs,” says Mistry. “Our strategy for the ETF market is based on the fact that we see it as a growth area and I think that is probably the case for most providers.

“We will continue to monitor the assets under management for each fund but we are currently very much in a growth phase. ETFs only account for around 4% of the investment market and with the growing interest that there is in passive management, there are lots of opportunities for ETFs.”

Mistry expects the pace of product launches to slow down but right now the firm’s focus is on growing the product range and providing clients with a full portfolio of ETF products.

New products
Meanwhile, UBS is developing a range of ETFs for launch later this year that will provide a mix of traditional fixed income and equity products, along with some niche investments.

The new products include the largest ETF listing on the London Stock Exchange – 49 cash-based ETFs and 17 swap-based ETFs with £3.6 billion (€4.5 billion) of assets under management. UBS also says it is not considering closing any ETFs.

“Every ETF provider has a different game of economics and to calculate the break-even point for every ETF is very different,” says Clemens Reuter, head of ETFs at UBS. “For us, when we launch a product, we believe in it and we have no intention of closing any ETFs that we have developed.”

There are no products under review or being closed at State Street Global Advisors either, says Axel Riedel, head of intermediary business in its SPDR ETF business.

The task of assessing the profitability of an ETF is complicated by the fact that some ETFs are offered as tactical building blocks to investors, says Riedel, such as European sector ETFs which are linked to the investment cycle.

Consequently, there will be a shift in the popularity of specific tactical ETFs as the investment cycle changes. “Some of our clients use country rotation models that shift between European countries, American countries, for the use of tactical asset allocation so there may be inflows in one country as another experiences outflows,” he says.

This may lead to some cross-subsidising of certain ETFs as the sectors shift in these country-rotation models. Many providers may decide to keep certain tactical ETFs open in anticipation that they may be in greater demand in the future, especially once the eurozone recovers from its current debt crisis.

Alternative to closure
What may be more likely in the European ETF sector is that we see more de-listings than closures, says Riedel. Whereas in the US, ETFs tend to be listed on just one exchange, there are more than 6,000 listings in Europe for a market of no more than 2,000 ETFs.

Ultimately, it is up to each ETF provider to take a view on their product range, he adds. “This is why we think it is important to launch new products together with our clients so that we do not end up with new products that don’t gather any assets and have to be closed.”

It is inevitable that some ETFs will be closed, says Michael John Lytle, managing director at Source, even if there is no reason necessarily for them to be closed today.

“It is like constantly buying new clothes and not throwing out any old ones. It doesn’t make any sense. This is not to say that they have to be closed today, but the funds industry has always had funds that have stayed open for years and have been successful, and others that have not. There is nothing wrong with that. It keeps the market efficient and allows promoters to be more aggressive in pricing the funds that stay open.”

Lytle adds: “Any form of failure is never nice and nobody likes to admit to it, but there has to be a degree of wastage. The key for providers is that they have more successes than they have failures.”

Full toolbox
Lytle says that ETF providers have to recognise some key principles when launching new ETFs in the current environment – not least that they have a clear idea of who their early-stage investors will be and that the products have a real investment purpose.

“In the past, there has been a feeling among some new entrants to the ETF marketplace that they need to have a full toolbox of ETFs to be truly in the game, but maybe they did not spend enough time thinking about how they would sell each ETF.

“The European market is far more institutional than the US market. If you don’t have a plan for each and every ETF you launch, nothing will happen.”

©2012 funds europe 



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