Nick Good of BlackRock looks at the relevance and suitability of ETFs in volatile and uncertain markets, and explains which products are popular in such an environment.
Date: Oct 2011
Tags: ETFs, Volatility, Yield, Dividends, Fixed income, Commodities, RMB, Diversification, Active management, Leverage
When investors are worried about whether the market is going to move, being able to get hold of their money during the course of the trading day is critical, he explained, adding that the firm has continued to see real interest in ETFs during the recent choppy markets.
Assuming there is more market volatility over the next six to twelve months, Good said he expects to see more and more investors buying ETFs.
Popular ETFs
According to Good, the big focus is on ETFs which provide yield, whether through fixed income or high-quality dividend-yielding equities. And the ability to achieve that through index products is very compelling, he added.
He said there is also a lot of interest in commodity and currency ETFs, and especially RMB, even if the investible product is not yet there.
Understanding high-dividend products
High-dividend products work in the way investors would expect them to, explained Good – the ETF provider collects the dividends from the companies and then distributes them on a regular basis, either monthly or quarterly depending on the fund.
Volatility in these products is inevitably higher than with similar fixed income products, but the returns could be very good for investors who are willing to bear that risk, he said.
Investing in fixed income ETFs
Fixed income ETFs provide clear diversification against an established benchmark, said Good, so they are simple to understand, plus the yield is clear and follows certain parameters which investors can expect over a period of time.
Plus, he added, the cost of these products is low, so in a market environment where it’s difficult to get outperformance, achieving benchmark performance or market level of performance at a low cost means these products can outperform a large number of active managers.
Suitability of leveraged and inverse ETFs
While there is clearly investor demand for leveraged and inverse ETFs, Good said he doesn’t think these products are suitable for most individual investors – only for professional investors and anyone looking for short-term, day-trading opportunities.
For buy-and-hold investors, however, leveraged and inverse ETFs do not always perform the way people expect them to, he explained.
As a result, Good said ETFs need to be clearly labeled to make sure any investors who are looking at these products understand the risks they are buying.
Growth in active managers
Although more and more providers have been entering the ETF space, this is a complex business, said Good, and investors need to pay attention to the quality of the provider in terms of their ability to not only manage the fund, but also the exchange-traded aspects of the fund.
As a result, he said some providers will leave the ETF space as they realise that it’s difficult to create an ETF.
Potential for actively-managed ETFs
According to Good, it is important to be clear that any ETF which doesn’t track an index in the US is referred to as an active ETF. But this doesn’t mean somebody is picking individual securities.
In general, there has been a lot of debate on the future of actively-managed ETFs. Good said this part of the market will still take some time to develop, explaining that the core benefit of ETFs is the fact that they are easy to hedge, and that brokers can support them and trade them very actively. So in an active environment, the loss of transparency makes it harder for brokers to support them.
However, these issues can be tackled to enable see some interesting products coming out of the active ETF space.
