Exchange Traded Funds (ETFs) are slowly but surely becoming an integral part of all successful private investors’ portfolios. In fact, as low cost core holdings, they are hard to beat. Not only are they cheaper than the average traditional passive unit trust, but they are also exempt from stamp duty. Better still, some of the underlying indices and baskets of stocks that they track cannot be accessed by other collective investments. And the recent spate of new launches – 28 in last month, bringing the total number listed on the London Stock Exchange (LSE) to over 80 – has opened up even more opportunities, making these products more attractive than ever.
Lyxor, a wholly-owned subsidiary of Societe Generale, has just launched an Indian and a South African ETF. In India, GDP growth is running at 9 per cent and the stock market has grown by an average of over 50 per cent in dollar terms over the past three years. Government reforms, de-regulation and an exploding population should ensure that this growth continues in the long term. The ETF tracks the S&P CNX Nifty, an index comprising 50 large companies across 22 sectors listed on the National Stock Exchange.
South Africa is a more complex story. Unemployment is running at over 25 per cent but GDP growth is a healthy 5 per cent and the Johannesburg Stock Exchange (JSE) is up around 400 per cent in the past five years. The 2010 football World Cup is a strong short term driver for the economy while rich natural resources should secure longer term growth. The Lyxor ETF tracks the largest 40 stocks listed on the JSE, and is currently the only dedicated fund offering exposure to South Africa. Both ETFs have a total expense ratio of 0.65 per cent. Lyxor has also launched a private equity and a Japan ETF last month.
Deutsche Bank, another big European ETF provider, has also listed a number of ETFs on the LSE. The 18 db-x trackers (see table below) cover a wide range of international markets, including India, again tracking the S&P CNX Nifty, China and Brazil, as well as regions such as Latin America and Europe, Middle East and Africa (EMEA).
However, the most interesting new arrivals come from Spa ETF, in the form of its MarketGrader 40, 100, 200, Large Cap, Mid Cap and Small Cap trackers. These ETFs do not simply track standard indices, but baskets of stocks that have been picked according to comprehensive quantitative analysis. For the first time, therefore, there are now ETFs that incorporate some form of active stock picking, albeit based on computer-based fundamentals modelling as opposed to a fund manager’s views. The stocks are chosen according to US research organisation MarketGrader’s methodology, which uses 24 filters across four criteria – growth, value, profitability and cash flow. These include earnings momentum, price to earnings, cash flow growth and profit margins. In short, the system aims to “capture multiple sources of alpha”, according to Neil Michael, head of quantitative strategies at London & Capital, who helps analyse and develop Spa’s ETFs. Five thousand five hundred US stocks are filtered and then the top 40, 100 and 200 stocks are tracked, with the added proviso that no ETF has more than 30 per cent of its assets invested in any one sector. According to figures provided by Spa, the methodology has proved remarkably successful. Over the last three years, the MG 40 has returned 62 per cent, the MG 100 69 per cent and the MG 200 59 per cent. This compares with a return of 37 per cent from the S&P 500. The MG Large, Mid and Small Cap ETFs have also significantly outperformed the S&P 500, 400 and 600 indices. MG Large Cap has the best return per unit of risk of all the six products. Spa has every intention of introducing more ETFs tracking international stocks in the future.
In the meantime, ETF Securities is introducing 29 new Exchange Traded Commodities (ETCs). It already has 32 ETCs listed on the LSE that track the prices of a wide range of hard and soft commodities. These new funds will track the Dow Jones AIG Commodity 3 Month Forward indices, offering exposure to a different part of the commodities futures curve.
