Why Buy A More Expensive ETF When A Similar Cheaper One Is Available?

The lowering of expense ratios is one of the biggest trends in the exchange traded fund industry today.

 

Yet two of the biggest ETF providers, BlackRock’s iShares and State Street Global Advisors, offer funds that charge significantly more than other funds they offer with similar exposures. Why would an investor choose the more expensive fund?

A prime example is iShares MSCI Emerging Markets (EEM), which tracks the MSCI Emerging Markets Index, the most widely followed benchmark in the emerging-market sector. It charges an expense ratio of 0.72%.

But the company offers a very similar fund, iShares Core MSCI Emerging Markets (IEMG), which only charges 0.14%. What’s the difference? While the MSCI Emerging Markets Index is primarily made up of large-cap stocks, the cheaper fund follows a multicap index, the MSCI Emerging Markets Investable Markets Index, which holds more than twice as many components, including all the stocks in the first index plus midcap and small-cap stocks.

With broader market exposure and a lower expense ratio, IEMG, which was launched in October 2012, is the more popular fund, with $40 billion in assets. But even with its drawbacks, EEM (which dates back to April 2003) still weighs in with $37.7 billion in assets.

Why does iShares continue to offer such an expensive fund — and why does it still attract investors?

Five years ago, iShares launched its Core Series of ETFs, a suite of 10 equity and fixed-income funds aimed at the buy-and-hold investor with dramatically lowered expense ratios. There are now 25 Core ETFs. The majority have expense ratios lower than 0.1%, and none is higher than 0.25%.

“IShares launched their Core Series at a time when they were losing market share to Vanguard because many of their core products chiefly were not priced competitively,” said Ben Johnson, Morningstar’s director of global ETF research. “It was part defense, part offense to stop the bleeding of the market-share losses to Vanguard.”

And fees play a major but not absolute role in the returns of the similar but not identical emerging-market ETFs, much as one would expect. In the year ended Oct. 31, EEM actually inched higher with a 25.64% return vs. 25.58% for IEMG. But over time, the cheaper fund has posted better results: an average annual 5.6% vs. 5.06% for the past three years and 4.92% vs. 4.22% for the past five years. The difference is practically the difference in the expense ratios.

Funds like EEM that track established benchmarks seem to be attracting traders and institutional investors who hold ETFs for shorter periods of time and aren’t as concerned about the expense ratio. Traders may use these ETFs because they are more available for borrowing to sell short and have a much deeper options and swaps ecosystem.

“There is an appeal for that product, which they are more familiar with and continue to use,” said Todd Rosenbluth, director of ETF and mutual fund research at CFRA Research. “For others the appeal is the considerably more volume and greater liquidity.” EEM trades 49 million shares a day, while IEMG has an average daily volume of 7 million shares.

Rosenbluth says the situation is the same with iShares MSCI EAFE (EFA), which tracks the widely followed benchmark for the developed nations, the MSCI EAFE Index, and has an expense ratio of 0.33%. That compares with iShares Core MSCI EAFE (IEFA). The core fund tracks the broader MSCI EAFE IMI Index and charges only 0.08%.

EFA is much more liquid, with average daily volume of 15 million shares vs. IEFA’s 4 million shares.

Meanwhile, State Street, realizing it was already late to the game where investors were demanding lower fees, decided that it would take too long to build assets and get onto important trading platforms if it created a new line of funds, said Matthew Bartolini, head of SPDR Americas research.

Instead, the firm decided to restructure a group of existing funds that already had assets and a user base. They rebranded 15 funds to make a consistent suite called the SPDR Portfolio, cut the fees, split the share prices so that they all started at $30, and if needed changed the index. Well-known funds such as SPDR S&P 500 (SPY) and SPDR S&P MidCap 400 ETF (MDY) weren’t changed for the same reasons EEM still exists.

“In order to be successful and have an impact for clients in a low-cost arena, you can’t just cut fees,” said Bartolini. “So we restructured 15 funds across every key asset class in equity and fixed income and aggressively cut costs to be the lowest or match the lowest price in the marketplace.”

The upshot is that traders might prefer the older indexes even if they’re a bit more expensive, while buy-and-hold investors might prefer the cheaper versions.

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ETFs That Track Gold Having A Better Year Than The Stock Market

fter a midsummer rally, gold is now having a better year than the S&P 500 index. And that’s good timing for some new gold ETFs that launched this year.

SPDR Gold Shares (GLD), the largest and oldest ETF in the world which tracks the price of gold, has surged more than 10% since July 7 for a year-to-date return of 16.9% through Sept. 7, according to Morningstar Direct. Meanwhile, SPDR S&P 500 (SPY), which tracks the stock market benchmark, is up 11.5% this year. IShares Gold Trust (IAU), GLD’s main competitor, is also up nearly 17%.

The main reason for the rally is the falling U.S. dollar, which has dropped nearly 10% this year. Some blame comments from President Trump, who said in April that the dollar was “getting too strong.”

But others think it has more to do with interest rates.

“Real interest rates started to go negative and that hurts the dollar. Both the five-year and the two-year (Treasury notes) are now negative,” said Frank Holmes, CEO and Chief Investment Officer of U.S. Global Investors, which launched U.S. Global Go Gold & Precious Metal Miners (GOAU) in June. “When the dollar falls, gold goes up.”

GOAU holds companies engaged in the production of precious metals either through mining or production and specialized financial firms called royalty companies. These royalty companies provide capital to fund exploration and production projects, and in return, receive a stream of royalties. GOAU is up 14% since its launch. It carries an expense ratio of 0.60%.

GraniteShares Gold Trust (BAR) also launched this year, on Aug. 31. Just like GLD and IAU, it holds actual gold bars to track the price of gold. Founded by Will Rhind, who managed GLD for 2-1/2 years before starting GraniteShares, BAR’s big selling point is it’s the lowest-cost gold ETF. It charges an expense ratio of 0.20%, vs. 0.40% for GLD and 0.25% for IAU.

“When you own gold as a hedge, you want the lowest-cost hedge,” said Rhind.

People flock to gold as a hedge when there’s uncertainty in the market. And there had been a lot of uncertainty lately, including deadlines to keep the government funded and raise the debt ceiling.

The Senate on Thursday approved a bill to avert a government shutdown and raise the debt ceiling for three months, as well as $15.25 billion in hurricane relief aid. In August, the president had said he was willing to risk shutting down the government unless he obtained funding for the wall he promised to build between Mexico and the U.S.

Gold hit its all-time high of $1,900 in 2011, during the last government shutdown threat.

“Another key motivation is we’re entering crash season, September and October,” said Brandon White, gold analyst at Bullion Management Group in Toronto. “We haven’t had a (stock market) correction for a number of years. So, people think we may be due for a downturn. So, take money off the table and move it into something that does well in market downturns, and precious metals do well.”

He added that annual gold production is expected to decline 40% going into 2018.

Then there is the saber rattling between Trump and North Korea, which is testing nuclear bombs and firing missiles. Wars always make gold prices go higher and geopolitical tensions are rising between the two countries.

All this has pushed the price of gold through the technical resistance line of $1,300, to $1,349 an ounce.

“A lot of people watching gold have been waiting for gold to challenge the $1,300-resistance line. It was tested three times last week,” said White. “When money managers consider an asset to revert to the upside from a downtrend, they will often wait for a 20% move. The resistance line was a key technical indicator that needed to be broken before sentiment turned. Now interest is back. It’s not so much a speculative trade as a defensive trade.”

And interest is definitely back.

Gold-backed ETFs saw net inflow of $1.6 billion in August, according to the World Gold Council. North American ETFs drove global inflow. GLD led inflow with $1.03 billion, or 3.2% of its assets under management, and IAU received $266 million, or $3.1% of AUM.

Equity and Bond ETF Inflow Plays Tag With the Stock Market

With the S&P 500 index posting a 32% gain in 2013, it’s not surprising that exchange traded funds (ETFs) holding U.S. equities, especially large-capitalization stocks, received the biggest net cash inflow last year.

But with U.S. stocks falling in January, 2014 has seen ETF investors fleeing U.S. stocks and buying such categories as bonds and emerging-market stocks. Amid all this activity, equity ETFs tied to nonmarket-cap-weighted indexes have bulked up.

Despite the stock market rally in 2013, net issuance, or net cash inflow, into ETFs fell 3% to $179.87 billion as investors pulled money out of bond funds, according to the Investment Company Institute. In 2012, fixed-income ETFs posted record annual net inflow of $52.32 billion. But net inflow plunged 77% last year to $12.20 billion as fears grew that the Federal Reserve Bank will soon reverse its quantitative-easing strategy and allow interest rates to rise. Bond prices fall when interest rates rise.
When Federal Reserve Chairwoman Janet Yellen speaks and the markets move, huge sums of money flow between stock and bond ETFs. AP

When Federal Reserve Chairwoman Janet Yellen speaks and the markets move, huge sums of money flow between stock and bond ETFs. AP View Enlarged Image

“One consistent trend for a while is investors have been repositioning their portfolio for the rising rate environment,” said Michael Iachini, managing director of ETF Research at the Charles Schwab Investment Advisory. “They’ve moved out of Treasuries and are investing in short-term debt instruments from high-yield issuers.”

Equity inflow in 2013 grew 26% to $166.84 billion. Of that total, 62% of inflow, or $104.03 billion, went into ETFs holding domestic equities. The rest went into international funds. But that trend reversed in the first two months of 2014.

Broad-based U.S. equity ETFs recorded net outflow of $21.08 billion. SPDR S&P 500 ETF (SPY), which received the most inflow last year, $16.32 billion, posted net outflow of $19.00 billion in Q1 2014, according to BlackRock, which offers iShares ETFs and tracks industry statistics. More surprising was that bond ETFs saw net inflow of $17.64 billion, more than all of last year combined.

“One thing that happened in the beginning of January was that long-term interest rates came down and stabilized,” said ICI senior economist Shelly Antoniewicz. “It turned out the resolution on the debt ceiling wasn’t going to be an issue and people became more comfortable with the Fed’s policy of reducing the bond buying program.”

One of the biggest reversals in asset flow has been in emerging-market stocks. In 2013, ETPs (exchange traded products) holding emerging-market stocks posted net outflow of $10.92 billion, according to ICI. Things really picked up steam this year. In the first two months of 2014, emerging-market ETPs recorded net outflow of $12.58 billion.

For the full story go to Investor’s Business Daily.

ETFs Flooded With New Money

Investors flooded ETFs with new money last week, pushing most of the cash into equity funds, even as they pulled dollars out of commodity and bond ETFs.

The $16.7 billion of net inflows that came in during the five days ended July 12 was the largest weekly total of the year, according to a report Morgan Stanley released Tuesday.

The SPDR S&P 500 ETF (SPY) was the star of the week. The ETF better known as the Spyder dramatically reversed its net outflows for the previous 12 weeks by bringing in half of the industry’s total net inflows for the week with $8.37 billion. It was the Spyder’s largest net inflow since the week of March 12, 2012.

With the Spyder leading the way, U.S. large-cap ETFs generated net inflows of $15.1 billion over the last 13 weeks, the most of any category, said Morgan Stanley. The Spyder accounted for 54% of that total. The total net inflow for all U.S. equity ETFs was $17.3 billion and the combined net inflows for all of ETF Land was $29.0 billion.

Year-to-date, total ETF assets in the U.S. have increased by 11% to $1.5 trillion. Net inflows year-to-date total $92.2 billion.

The commodity ETF category saw the biggest net outflows, losing $636 million for the week. However, all of that came from the SPDR Gold Trust (GLD), which posted a weekly net outflow of $900 million. Over the past 13 weeks, commodity ETFs have seen net outflows of $11.73 billion, with GLD accounting for $9.62 billion. The Gold Trust hasn’t posted a net inflow in the past 32 weeks, bringing its market capitalization down to $38.78 billion.

Emerging-market ETFs was the second-worst category, with net outflows for the week at $624 million and for the 13 weeks at $11.05 billion. The iShares MSCI Emerging Markets ETF (EEM) posted the second largest net outflows for the week and 13-week periods at $386 million and $7.03 billion, respectively. In a reflection of the faltering economy in China, the iShares MSCI China ETF(MCHI) had a net outflow of $246 million last week.

Fixed-income ETFs also went negative, posting weekly net outflows of $419 million. For the 13 weeks ended July 12, bond ETFs saw net outflows of $511 million as investors moved into short-duration fixed income and U.S. equity ETFs, said Morgan Stanley.

Among the ETFs market participants expect to fall, the Spyder saw the largest increase in short interest, at $2.0 billion, according to Morgan Stanley. This is the highest level the leading ETF has been at since April 15, and is nearly 10% about the one-year average.

Even as the CurrencyShares Euro Trust (FXE) gained 6.3% over the past year, it continues to be one of the most heavily shorted ETFs as a % of shares outstanding, says Morgan Stanley.

Fidelity Takes on State Street

Reading List for Monday, Jan. 7:

Fidelity’s new push into ETFs means it’s getting into the ring with cross-town rival State Street Global Advisors. The Boston Herald says Fidelity “is getting less and less business from investment advisers because it used to be that an investment adviser would pick a basket of mutual funds and Fidelity would be 30 percent or 40 percent of them.”

Wall Street Sector Selector does some technical analysis on the SPDR S&P 500 (SPY) and concludes “U.S. stocks and ETFs now face a moment of truth after the recent powerful rally.  Technical resistance and fundamental headwinds persist along with ongoing political uncertainty. “

Ari Weinberg explains in WSJ.com how ETFs lend out their securities for some extra cash. International securities regulators are in a tizzy over how this could cause potential disruptions in the market. But ETFs in the U.S. are much more stable than the derivative-based ETFs in Europe, so it’s not much of a concern on this side of the pond.

ING Likes Value Stocks, Emerging Markets and Europe in 2013

Just like the Christmas season, forecast season rolls around this time of year with investment advisors predicting what the new year holds and where we should all be putting our investment dollars. Ahead of us looms the fiscal cliff, a combination of tax increases and large government spending cuts that could chop as much as 4% out of the gross domestic product. Should the fiscal cliff go into effect it could put the current tepid economic recovery into jeopardy.

In a press briefing at ING’s offices Tuesday, Paul Zemsky, ING Investment Management’s chief investment officer of multi-asset strategies, said he expects the fiscal cliff to be resolved by the end of this year, with a negative impact of just 1% to 1.5% to GDP. He expects to see an end to the payroll tax holiday and the Bush tax cuts for the highest-income brackets. He also expects capital gains taxes to rise to 20% and dividend taxes to revert back to taxpayers’ regular rate from 15% now. Should the Congress wait until after the new year, Zemsky expects to see a major sell off in the equity markets. “It could be as much as a 10% drop, but we would expect this to be a V-shape bounce because the government would have to fix the problem. We would consider this a buying opportunity should it happen.”

Stocks remain cheap relative to bonds, said Zemsky, and both U.S. and global equities are attractive investments right now with price-to-earnings ratios around 15. Zemsky said the housing market has bottomed and is poised to rise, however investors have not yet realized this. As housing prices bottom, this makes collateral stronger, said Zemsky, adding now is the time to increase investments in U.S. financial stocks.

Overall, ING expects 2013 will bring modest growth in the U.S., continued growth in emerging markets and the end of the European recession. Zemsky’s overall forecast predicts U.S. GDP to see 2% to 3% growth next year, which will lead to 5% to 7% earnings growth in the S&P 500. He expects the S&P 500 to grow 8% to 10% next year with a year-end target price between 1550 and 1600. U.S. value stocks and emerging market equities look especially attractive in 2013.

The most popular ETFs tracking these areas of the market are the SPDR S&P 500 (SPY), the Financial Select Sector SPDR (XLF) and the Vanguard MSCI Emerging Markets ETF (VWO). Click here for a list of ETFs that track U.S. value stocks.

Zemsky added that it might be time to begin overweighting European equities. He said people are too negative on Europe. While there is still risk in there, he said the Euro Zone is beginning to stabilize and this could lead to higher equity prices. Click here for a list of ETFs that track European stocks.

As for the bond market, Christine Hurtsellers, ING’s chief investment officer of fixed income and proprietary investments, said the U.S. market is not pricing in any changes in policy from the U.S. Federal Reserve Bank. She says it’s time to underweight U.S. Treasury bonds and high quality investment grade U.S. credit. She recommends moving into emerging market debt, especially high-grade sovereign debt. The PowerShares Emerging Markets Sovereign Debt Portfolio (PCY) covers this market.

Currency Hedge ETFs Win Big at Global ETF Awards

Deutsche Bank’s family of Currency Hedge ETFs won the award for the Most Innovative ETF in the Americas for 2011 at the 8th Annual Global ETF Awards. The awards are given to industry participants for outstanding achievements in the marketplace. In Europe Deutsche Bank tied with the Nomura Voltage Mid-Term Source ETF for the top prize, while the Motilal Oswal Most Shares NASDAQ-100 ETF was named most innovative in the Asia-Pacific region.

The five ETFs under the Currency Hedge banner:
db-X MSCI Brazil Currency-Hedged Equity Fund (DBBR)
db-X MSCI Canada Currency-Hedged Equity Fund (DBCN)
db-X MSCI EAFE Currency-Hedged Equity Fund (DBEF)
db-X MSCI Emerging Markets Currency-Hedged Equity Fund (DBEM)
db-X MSCI Japan Currency-Hedged Equity Fund (DBJP)

The Most Innovative Exchange Traded Product (ETP) in the Americas went to the iPath S&P 500 Dynamic VIX ETN (XVZ), while the db Physical Gold SGD Hedged ETC won in Europe.

Held at the Grand Hyatt Hotel in New York last Thursday, the Global ETF Awards provide a window on how the global ETF industry views itself. Unlike the Capital Link awards, where a small committee of analysts and industry insiders choose the winners, the Global Awards is voted on by the entire ETF industry. Here 520 organizations from around the world voted on who they think are the industry’s leaders and innovators. The awards and ceremony were created and run by the operators of exchangetradedfunds.com.

The evening began with a new prize, the Nate Most Award. Named after the man who invented the SPDR, the first ETF, it’s awarded to the individual who has made the greatest contribution to the ETF Market.

“We honored to be able to celebrate Nate’s place as the father of the ETF and to honor achievements in the ETF industry,” said Arlene C. Reyes, chief operating officer of exchangetradedfunds.com.

The first winner of this new prize was James Rose, senior managing director of State Street Global Advisors, for his commitment to the industry and for setting a standard of excellence. In addition to running State Street’s ETF business he serves as the first chairman of the Investment Company Institute’s Exchange-Traded Funds Committee.

“Nate Most created a product that created an industry and a great product for investors,” said Ross upon receiving the award.

Here is the list of other winners:

Most Innovative ETF Index Provider
The Americas – Dow Jones Indexes
Europe – STOXX
Asia-Pacific – MSCI

Most Widely Utilized ETF Research (Statistical)
Deutsche Bank won in all three regions.

Most Widely Utilized ETF Research (Analytical)
The Americas – Bloomberg
Europe – Deutsche Bank
Asia-Pacific – Deutsche Bank

Best ETF Market Maker
The Americas – Knight
Europe – Flow Traders
Asia-Pacific – Flow Traders

Most Recognized ETF Brand
The Americas – SPDRs
Europe – (Tie) db x-trackers and iShares
Asia-Pacific – China 50 ETF

Best Service Provider
The Americas – BNY Mellon
Europe – (Tie) Northern Trust and State Street Fund Services (Ireland)
Asia-Pacific – SSgA

Most Informative Website
The Americas – SPDRS.com
Europe – etf.db.com
Asia-Pacific – hkex.com.hk

Most Informative Website – Media
The Americas – IndexUniverse.com

Small ETFs Struggle as 18 Funds Hold Half of Industry’s Assets

If you’re looking for a reason why many of the ETFs launched last year failed to raise the $30 million in assets necessary to turn a profit and stay open take a look at the $10 Billion Club.

While there are more than $1 trillion in assets in the entire U.S. ETF industry, the majority are confined to about 100 funds, “leaving the other 1,300 ETFs in the dust,” says ETF Database.

Yesterday, I said many investors remain risk-adverse in today’s volatile market, leaving them squeamish about buying into hypertargeted ETPs. They prefer to stick with big, liquid funds tracking well-known indexes both because they understand what the index tracks and because they can get out quickly in an emergency. Other reasons why small, niche funds are having a hard time gathering assets is because institutional investors and investment advisors are restricted to buying products with minumum requirements for assets under management, average daily volume and age of the fund.

This leaves just 18 ETFs holding nearly half the assets of the entire ETF industry, according to ETF Database, which calls the group the $10 billion club because they all have more than that under management.

It’s no surprise who tops the list:

SPDR S&P 500 (SPY)
SPDR Gold Trust (GLD)
Vanguard MSCI Emerging Markets ETF (VWO)
iShares MSCI EAFE Index Fund (EFA)
iShares MSCI Emerging Markets Index Fund (EEM)
iShares S&P 500 Index Fund (IVV)
PowerShares QQQ (QQQ)

The big surprises to my eyese were the iShares iBoxx $ Investment Grade Corporate Bond Fund (LDQ) and the iShares iBoxx $ High Yield Corporate Bond Fund (HYG).

FT Says ETFs Are Reaching Saturation Point

The U.S. ETF market may be getting saturated, says the Financial Times, as the appetite for new funds wanes. Last year, a record 302 exchange traded products were launched, a little less than the 389 funds that made up the entire market in 2007. At the end of 2011, there were 1,369 ETPs with more than $1 trillion in assets under management.

However, of the 190 ETFs launched in the first six months of 2011, 79% failed to reach the profitability mark of $30 million in assets under management, according to XTF, an ETF-focused research house. This was up from 62% in 2010 and less than half in 2009.  Fewer assets in the funds means less liquidity and wider bid-ask spreads.

Mel Herman, the head of XTF, says, said: “Most popular indices already have an ETF tracking them, so issuers are launching more and more niche products.”

I’ve been saying this for two year. A big difference between mutual funds and ETFs is that you don’t see many ETFs tracking the same index while each mutual fund sponsor can have their own set of index funds that track the S&P 500, the MSCI or any other popular index. The reason is twofold. Many mutual fund companies run 401(k) plans. So, they need to offer a wide range of options in the plan. Since plan participants are usually trapped and unable to buy funds outside the plan sponsor, these copy-cat index funds can build up significant assets. Also, many mutual funds are sold by investment advisors who receive a commission, or load, from the fund company. Thus, competing funds tracking the same index can build up assets as advisors direct investors which fund to go into.

Typically, the first ETF to track an index claims that market segment for itself. By the time a second fund launches, the first ETF has made a reputation and gathered a large amount of assets, making it much more liquid than any newcomer. For instance the SPDR S&P 500 (SPY), which launched in 1993, has net assets of $95.4 billion, while the iShares S&P 500 Index Fund, which launched seven years later, has only $26.2 billion.

This syndrome where the first ETF grabs all the assets and attention is called “first-mover advantage.” Since ETFs don’t have the captured audience of 401(k) plans or loads to pay to advisors, no one is there to push smaller funds, hence there are few funds tracking the same index or asset.  This means ETF sponsors need to find new indexes to track. But after a while, the indexes get so specialized they only attract a small audience. In addition, in volatile times, investors are less willing to risk investing in an offbeat concept. They want proven indexes that track broad markets. So, until investors are willing to take on more risk, unless an ETF concept is compelling, new funds will continue to struggle for assets.

ETF Outflows Topped $2.5 Billion Last Week

ETFs posted net outflows of $2.5 billion last week, a period during which the S&P 500 fell 4.7%, says Morgan Stanley in its weekly ETF report. It was a huge amount considering the Thanksgiving holiday shortened the week to just 3 ½ trading day.

U.S. equities led the march out of the market with $3.1 billion in net outflows, with large-cap stock ETFs seeing the most redemptions, about $2.9 billion, according to the report. This has brought the total of U.S. ETF assets down 1% year to date to $991 billion, on a combination of lower asset values from market declines and net outflows.

Despite the flight from U.S. equities, the Vanguard Small-Cap ETF (VB) saw the most inflows of any ETF last week, $1.1 billion. In addition, Vanguard equity ETFs made up five of the top 10 ETFs to see net inflows last week. The other four were Vanguard Mid-Cap ETF (VO), Vanguard Small-Cap Growth (VBK), Vanguard Small-Cap Value (VBR) and the Vanguard Value ETF (VTV).

Meanwhile, the SPDR S&P 500 (SPY) saw the largest outflows for the 1-, 4- and 13-week periods. The SPDR lost $1.2 billion in assets last week. The iShares Russell 2000 Index Fund (IWM) saw the second-most outflows, $1.0 billion.

Over the past 13 weeks, fixed-income assets saw the greatest inflows, $15.8 billion vs. $32.5 billion for all asset classes. Fixed-income ETFS now make up 18% of all ETF assets, up from 14% at the beginning of the year, says the report.