European investors increase usage of ETFs

An ever-growing number of European institutions are increasing their usage of ETFs in their portfolios, a new BlackRock initiated European ETF study performed by Greenwich Associates shows. Out of the 132 participants in the survey, 86 percent reply that equity related ETFs now account for a quarter of their equity holdings. Lack of liquidity in fixed income and risk management are some of the reasons for the increase in usage of ETFs. However, like most things in life, ETFs also come at a price.
New investor segments are getting interested in using Exchange Traded Funds, says a new study commissioned by Blackrock.
New investor segments are getting interested in using Exchange Traded Funds, says a new study commissioned by Blackrock.

A growing number of institutional investors are using ETFs for numerous applications across asset classes, a new study shows. The study was carried out by Greenwich Associates on behalf of Blackrock/Ishares investigating the use of ETFs amongst institutional investors in Europe in 2016. Blackrock is the largest provider of ETFs.

"The ETF product category as a whole has evolved from traditional plain vanilla indices to involving next generation ETFs such as Smart  Beta, Thematic and Alternatives ETFs.  All of which is driving the growth and expanding usage. The growing popularity of multi-asset fund of funds is also driving the demand for ETFs as the core building blocks in these strategies," director of Blackrock Ishares Nordic, Matti Tammi, says to FWAM.

This growth does not come as a big surprise, given that official figures show that the ETF asset class has increased by 18 percent per annum since 2008, and is now at USD 2.4 trillion.

Increasing need for ETFs

The reasons to use ETFs are many, according to the institutional investors. Some indicate the increased volatility of the market, some indicate the reduced liquidity in the bonds markets, and yet others indicate risk management as the cause of the increased usage of ETFs.

33 percent of respondents replied that they use ETFs as either complementary products or as a substitute for other products. Active mutual funds are most affected by the replacements. 68 percent of respondents have exchanged active mutual funds for ETFs. A quarter of respondents have swapped individual securities for ETFs, while 21 percent have swapped futures contracts for ETFs.

In the Nordic countries, especially pension funds and insurance companies drive the growing usage of ETFs. But there's increased interest from the wealth management segment, says Blackrock's Matti Tammi:

"We are very positive on the growth prospects for ETFs in the Nordic wealth segment, which we believe will be the next leg in the growth of ETFs in the Nordic region – driven by market demand and by the changing regulatory environment, focusing on more transparency, quality enhancement  and cost efficiency that undoubtedly will impact on the business models of the larger wealth distributors – all of which bodes well for ETFs playing a more systematic role in wealth management offerings and solutions of the future – we believe."

At the Department of Finance at Copenhagen Business School, professor Michael Møller declares his support of ETFs. As long as they do not get too complicated or narrow:

"Simple, broad ETFs that only work as an easy and inexpensive way to gain wide exposure are an excellent invention for both private and institutional investors. I'm more skeptical towards the complicated products, geared products, small indices. I'm skeptical for several reasons. First of all, I like simple things, and second, I don't like expenses. The complicated products are usually more expensive, and the are less liquid," says professor Møller to FWAM.

The study from Blackrock and Greenwich Associates also shows that bond ETFs are increasingly popular. Half of the polled institutional investors invest in bond ETFs, while two-thirds of asset managers put their money in bond ETFs. High yield has brought in most investors (29 percent) for all types of investors.

ETFs are far from unproblematic

Before plunging head first into purchasing ETFs, investors should be aware that an increasing number of critics are calling attention to the fact that ETFs are not unproblematic. Quite the contrary. Among others, Financial Times criticized the asset class in a series in 2016.

The newspaper pointed out that ETFs are becoming increasingly complicated in their construction, and thus the opportunity to raise expenses appears, even though the low expenses have been the be-all and end-all of the ETF entry into the global market.

Even one of the world's biggest ETF providers, Vanguard, is on the alert. In a column in Financial Times, Vanguard founder John Bogle cautioned about the use of ETFs in general.

He pointed out that ETFs make it so much easier to trade on account of their construction, and that turnover is extremely high compared to traditional assets. Trading too much and too often does nothing good for the bottom line, says Bogle.

"As a result, the annualized turnover rates are different in magnitude: stock turnover, 120 percent; ETF turnover, 880 percent. The implications of this rapid trading – call it speculation – have yet to be fully examined," John Bogle wrote in Financial Times on Dec. 12, 2016.

Another point of criticism about ETFs is the fact that by owning ETFs, one also renounces the opportunity to enter as active owner of companies that tend to be slightly too vague about the usage of various ESG, SRI and CSR principles.

However, professor Møller does not buy into that argument:

"It appears to me that it's pretty expensive to buy the underlying stocks compared to the humble profit that you get for better ethical behavior via active ownership. If you want to teach a company something, then you have to either stop buying its products, or you could choose the name and shame strategy, where you publicly shame its name and reputation in the media," Møller says.

Tammi says, regarding the question of how Black Rock/Ishares responds to the critical voices:

"For Black Rock, this is not a question of either passive or active – but both active and passive, and moreover being active with the passive –such as active allocation with ETFs or index funds as building blocks , along with combined solutions with active and passive funds," Tammi says in conclusion.

English Edit: Marie Honoré

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