In only four years since exchange-traded funds were introduced in Europe the market has exploded.This is due, in large part, to their simplicity and tradability, says Isabelle Bourcier.
Exchange-traded funds (ETFs) represent an exciting product class that has exploded in asset size and interest in recent years in many parts of the world. Growth has been exponential not only in assets under management but also in traded volume.
The growing interest in ETFs is driven by their very nature. They are index-linked, listed funds that are tradable like any other security in real time on a European stock exchange and are designed to comply with local and European market regulations. Their main advantages are that they offer investors efficient tools to replicate as closely as possible the performance of their benchmark index and that they make it easier to invest in a portfolio of stocks or bonds, as well as being more cost efficient and tax efficient.
ETFs can be used by all types of investors for many investment applications. Investors may buy ETFs primarily for diversification. They provide an instant exposure to a basket of stocks or bonds through a single investment tool, which is quoted continuously during local market hours and thus easily accessible to small or large investors. There is no minimum trading size. Besides, each fund share or unit in most cases equals a fraction of its underlying index.
Flexible trading tool
Unlike most funds, ETFs are open-ended funds that can be bought and sold at a prevailing price. This means that they can be used as efficient trading tools: not only can you buy and sell any time you want, but you can place order limits at specific price levels and thus benefit from the index trend in real time. Furthermore, ETFs work well with macro asset allocation models, either as the framework for an entire portfolio or as the core portion of a portfolio. Investors will gain management efficiency by reducing the time and the cost spent on maintenance of core exposure.
Another common use is as an immediate asset allocation or cash management tool; investors can buy ETFs to ‘equitise’ cash inflows, whatever the size, on a short-term basis while waiting for investment decisions. ETFs can be used as an alternative to futures and they can be purchased in smaller sizes. They do not require any special documentation or accounts, and do not have roll-over costs or margin requirement. In addition, ETFs track many indices on which futures are not available.
Millennium launch
April 2004 was the fourth anniversary of the launch of the first European ETFs. At the end of that month, there were 109 ETFs and the total assets under management (AUM) reached $25.8bn.
The key to ETF success has remained the same since launch: the type and reputation of the underlying benchmark index, as well as the liquidity of the ETF itself (measured in daily trading turnover and quoted spread).
National or regional blue chip index-based ETFs are the milestones for the European market. Private and professional investors enjoy the flexibility and the convenience of being exposed in a single transaction to a basket composed of the most attractive values of their national economy. This is demonstrated by the fact that four ETFs now have an AUM of over $2bn. All four track either a eurozone index or a national index (see table 1).
European market
The European ETFs industry is dominated by three issuers: Indexchange, BGI and Lyxor Asset Management account for 72.4% of the assets and more than 79% of traded volumes.
The latest innovations in the European ETFs industry are based on bond indices, first introduced in February 2003. There are currently 12 bond ETFs listed on five European stock exchanges, seven of which are based on German, UK or Swiss government bond indices and two of which are based on credit indices. Lyxor Asset Management, a subsidiary of Société Générale, launched the first EFTs based on eurozone government bond indices on Euronext in 2004. The three ETFs, tracking different maturity band indices from the EuroMTS range, reflect a portion of or the entire eurozone bond curve. EuroMTS indices are independent real-time indices, calculated using tradable prices from the MTS trading platform – the primary electronic bond trading system for Europe with daily volumes averaging €85bn (see table 2).
Bond ETFs
Bond ETFs share many of the benefits of equity ETFs, including low cost, transparency, trading flexibility, and all day tracking and trading.
At the launch of the three bond ETFs on EuronextNextTrack segment in March 2004, Edhec Business School, sponsored by Euronext, conducted a study on ETFs bond investment, The benefits of bond ETFs for institutional investors. The natural vehicle for a core-satellite approach.
The study concluded that bond ETFs can be used by institutional investors in building both passive and active investment strategies. They enable return on reference indices, replicated at a lower cost than direct management of government bonds baskets.
Isabelle Bourcier is marketing director, exchange traded funds
Focus on lyxor asset management
Lyxor Asset Management is an investment management company regulated in France. It was approved by the AMF in 1998 and it is a wholly-owned subsidiary of Société Générale. It aims to offer the best financial innovation to its clients both in France and abroad: institutional investors, asset management professionals and distribution networks for financial products. The new management techniques used by Lyxor Asset Management help move from long-only management strategies to more sophisticated approaches, and thus provide investors with new investment opportunities.
With more than 800 funds covering a total of more than €35bn under management, Lyxor Asset Management has enjoyed strong and steady growth since its creation. It has a solid internal structure, employing more than 120 staff. Lyxor Asset Management offers three major families of investment products:
Index tracking: €4.7bn assets under management
Lyxor Asset Management is one of Europe’s three largest tracker fund managers, with 22% of total European assets under management at end-2003. The Master Unit ETFs cover indices on all major international capital markets. Lyxor Asset Management has exclusive licences on the CAC 40, FTSEurofirst80 and S&P/MIB indices and licences on the Stoxx and Dow Jones indices. In early 2004, the company added to its range through the exclusive launch of the first ever trackers on the EuroMTS indices, the benchmarks for sovereign bonds in the eurozone.
Structured Investment: €15.8bn assets under management
Lyxor Asset Management remains a pioneer in structured investment and offers one of the market’s broadest ranges. Lyxor Asset Management is part of SG CIB, whose expertise in equity derivatives is recognised worldwide. In this area, Lyxor Asset Management offers analysis tools and bespoke investment solutions which allow investors to optimise the risk/return profile of their asset allocations and to seize market opportunities.
Alternative Asset Management: €15.3bn assets under management
Since 1998, Lyxor Asset Management has developed a trading platform for its Managed Accounts, which gives simple, secure and liquid access to hedge funds. Consisting of around 100managed accounts and covering all the main hedge fund strategies, the platform allows diversified, bespoke asset allocations.
The range covered by the platform is the broadest in the market, making Lyxor Asset Management one of the hedge fund industry’s leading players. By providing independent risk control and valuation monitoring, Lyxor Asset Management overcomes many of the deterrents to investment in this sector that are frequently mentioned by investors.
The platform is used by major investment advisers and serves as the base for the MSCI® Hedge Invest Index, a liquid, investable allocation representative of the hedge fund universe.
