Reid Steadman of Standard & Poor's explains the role and application of indices in the construction of ETFs, as well as looking at trends in licensing.

Date: Oct 2011

Tags: ETFs, Index, Passive management

• The S&P indices can be used as model portfolios, to create ETFs and other investment vehicles, and the firm also licenses its marks
• In the early days of ETFs, sponsors would look for pre-existing indexes – now there is much more consultation and development of a concept to create a new product and value proposition for ETF investors
• There are also now more types of asset classes being offered, he added, including fixed income and commodities

According to Reid Steadman in an interview, S&P Indices produces benchmarks which are used to indicate which way the various markets are going.

These indices can also be used as model portfolios, to create ETFs and other investment vehicles, he explained, so the firm works with ETF sponsors who take the indices and essentially use them as recipes for creating a new fund.

The firm also licenses its marks, said Steadman, with the name of a particular ETF including the S&P label to enable investors to identify which index the ETF is tracking.

Differentiation

Steadman said the firm differentiates itself in Asia in terms of its service and flexibility. For example, ETF sponsors come to S&P with good ETF ideas, to work through how to put them into index form.

Once S&P then feels it has an index that is truly investable, it creates and launches that index, and then licenses it back to the ETF sponsor.

In the early days of ETFs, Steadman said sponsors would look for pre-existing indexes and get a license to use that index. Now, he said there is much more consultation and development of a concept to create a new product and value proposition for ETF investors.

Using indexes

An index can be used in a few different ways, said Steadman. For instance, a popular way to use an index is to simply use it as a benchmark, so an active manager might have a mandate to try to beat the performance of an index, even if this has proven to be difficult to do.

Indexes are also used for passive management, which is their most popular use, to replicate the performance of that benchmark.

Trends licensing

The general interest in ETFs has increased overall in Asia, said Steadman, with ETF sponsors looking to enhance knowledge sand take-up of the product.

Although it will take a while for the ETF asset to come, Steadman said this will definitely happen, so it is imperative that the ETF sponsors have their products available in the market when the assets start to flow.

There are also now more types of asset classes being offered, he added, including fixed income and commodities. There is interest in commodities through futures contracts which track the prices.

Recognition of indexes

In Asia, Steadman said most investors know the headlines indices, and these have been widely used for some time.

There is also an increased level of sophistication in terms of recognising different ETFs that are offered across the region and also globally, he added.