The in thing

But in­vestors must un­der­stand what they’re buy­ing

Finweek English Edition - - MONEY CLINIC - MARC ASH­TON marca@fin­

EX­CHANGE-TRADED NOTES (ETNS) are fast be­com­ing one of the most pop­u­lar new in­vest­ment tools be­ing rolled out by fi­nan­cial in­sti­tu­tions try­ing to cap­ture mar­ket share in South Africa. How­ever, in­vestors need to be sure of un­der­stand­ing ex­actly what they’re get­ting.

Most in­vestors who have dab­bled with the stock mar­ket un­der­stand what an ETF is and most will have some un­der­stand­ing of how a prod­uct range such as Sa­trix works. But as mar­ket aware­ness grows about pas­sive prod­ucts, in­vestors need to en­sure they un­der­stand what they’re ac­tu­ally buy­ing. For ex­am­ple, take Stan­dard Bank’s re­cently launched Africa Equity ETN. While the port­fo­lio it­self gives in­vestors ac­cess to 100 plus com­pa­nies in a bas­ket of African coun­tries, the ETN isn’t backed by phys­i­cal equity but rather Stan­dard Bank’s prom­ise to pay in­vestors the equiv­a­lent of what it cal­cu­lates the bas­ket to be worth.

The re­tail in­vestor can never phys­i­cally re­deem the bas­ket for its un­der­ly­ing com­po­nents. That has pros and cons for in­vestors. For in­stance, the re­cently launched Deutsche Bank ETN prod­ucts that give in­vestors ac­cess to China, Africa and an emerg­ing mar­ket “bas­ket”. Kari van Rens­burg, di­rec­tor of global equity de­riv­a­tives at Deutsche Se­cu­ri­ties, says these prod­ucts will of­fer re­tail in­vestors ac­cess to pas­sive prod­ucts on a very low fee base (85 ba­sis points). The fees are lower for an ETN than an ETF prod­uct, as they’re clas­si­fied as dif­fer­ent types of prod­ucts and have lower reg­u­la­tory costs at­tached to them.

That cost fac­tor has been a crit­i­cism lev­elled at the tra­di­tional Deutsche Bank X-Tracker prod­ucts, which are pure ETFs. The to­tal ex­pense ra­tio of the ETF prod­uct comes in be­tween 1,10% and 1,25% against 0,85% on the ETN. That has to some de­gree meant in­vestors have been shy to make use of the prod­ucts in their port­fo­lio.

How­ever, such be­hav­iour has been chang­ing. “We now have around R1,6bn in as­sets in the X-Tracker prod­uct range and since the start of the year we’ve had about a 50% in­crease in the units held in the World, US and Ja­pan [in­dex-track­ing] prod­ucts,” says Van Rens­burg.

An in­ter­est­ing ob­ser­va­tion he made was that re­tail in­vestors were largely mak­ing their own in­vest­ment de­ci­sions by in­vest­ing through on­line stock­broking of­fer­ings rather than through struc­tured in­vest­ment plans.

While there’s noth­ing to sug­gest ei­ther Stan­dard or Deutsche Bank prod­ucts are any­thing but le­git­i­mate of­fer­ings, in­vestors should be sure they un­der­stand what they’re get­ting for their money, es­pe­cially with costs now be­ing such an im­por­tant sell­ing fac­tor for pas­sive prod­ucts. That’s likely to be­come an in­creas­ingly rel­e­vant topic, with ETNs and lever­aged “pas­sive” prod­ucts on the hori­zon for lo­cal mar­kets.

Deb­o­rah Fuhr, of global as­set man­age­ment gi­ant Black­rock, makes an im­por­tant point in com­men­tary about the Fi­nan­cial Sta­bil­ity Re­port into some of the new gen­er­a­tion ex­change-traded prod­ucts that have been in­tro­duced over re­cent years. “The re­port per­haps missed a trick in not fo­cus­ing in more depth on the risks posed by ex­change-traded notes and cer­tifi­cates. Cer­tainly it was the re­al­i­sa­tion that in­vestors had 100% coun­ter­party ex­po­sure to AIG that fo­cused many minds in 2008 that, while an ETN might trade and set­tle like an ETF, it didn’t have the in­her­ent pro­tec­tions you can as­sume in the lat­ter struc­ture.”

Com­ment­ing on whether such con­cerns were rel­e­vant to the South African mar­ket, Mike Brown, of et­fSA, says: “These con­cerns aren’t cur­rently strictly ap­pli­ca­ble to SA, where the Fi­nan­cial Ser­vices Board’s reg­u­la­tions pre­vent the use of de­riv­a­tives or lever­aged (geared) po­si­tions in the con­struc­tion of ETFs. In the case of ETNs, the JSE does al­low the use of fu­tures con­tracts in hold­ing the un­der­ly­ing as­sets. Such fu­tures con­tracts, of course, are ex­change­traded prod­ucts sub­ject to daily, mark to mar­ket and mar­gin re­quire­ments as well as full trans­parency – but also re­quires the is­suer of the ETN to pro­vide a fully un­der­writ­ten obli­ga­tion to de­liver the per­for­mance of the as­set be­ing tracked.”


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