An introduction to Exchange Traded Products

Transcription

1 An introduction to Exchange Traded Products For private investors The ETP industry has seen tremendous growth over the last 20 years, with more than US$539 billion invested in over 2,220 ETPs Europe-wide1. ETPs have opened investment opportunities in a wide variety of asset classes to private investors, offering a range of exposures in a cost-effective and flexible solution to best meet their investment objectives. What is an ETP? An Exchange Traded Product (ETP) is a financial instrument traded on a stock exchange, like shares. ETPs provide a cost-efficient and secure way to gain diversification in an investment portfolio by gaining exposure to a benchmark or an asset class. They are passive investments, with generally lower fees than active and index mutual funds, making ETPs a simple way for investors to gain exposure to a wide range of assets. ETPs are divided into three categories Exchange Traded Funds (ETFs) Structured as funds Commonly governed by the UCITS framework in the European Union which provides a number of important safeguards for investors Exchange Traded Commodities & Currencies (ETCs) Issued as debt securities Are not restricted by UCITS diversification requirements and can therefore provide exposures to individual commodities and currency pairs as well as diversified baskets Exchange Traded Notes (ETNs) Generally issued by banks Usually entirely reliant on the creditworthiness of the issuing entity 1 Number of products cited, excluding listings. ETFGI, Europe ETF and ETP Industry Insights, July 2016 (August 2016)

2 As one of the world s leading, independent providers of ETPs, ETF Securities is committed to improve knowledge about the ETP vehicle, from better understanding the mechanics of the product to how they can diversify an investment portfolio. Investors can profit from our expertise through our commitment to regular and insightful research, which covers all asset classes on a weekly, monthly and tri-annual basis, as well as providing reactive market commentary through our blog. We create value for investors by helping them look beyond current sentiment and market volatility to better understand what is really going on and make smarter investment decisions. In addition, we understand investors are all increasingly under time pressure and subject to a huge volume of written materials. To combat being lost in the crowd, we have evolved the ways in which we present our educational materials, moving from just print brochures to a wide variety of accessible mediums, such as infographics and videos. For more information, please visit: etfsecurities.com/research etfsecurities.com/etpedia

3 What are the benefits of investing in ETPs? ETP characteristic Similar to Benefit Tracks an underlying Tracker Funds Aims to provide the same return as underlying benchmark or asset Open-ended OEICs/Unit Trusts Shares can be created as necessary to meet demand Listed on exchange Investment Trusts Increased transparency, as ETP constituents are published on a daily basis so an investor can see exactly how their investment is performing Trades like shares Investment Trusts Highly accessible as ETPs can be bought and sold anytime the market is open through the same platforms and brokers No Stamp Duty Non-UK investments Exempt from the 0.5% Stamp Duty Reserve Tax ETP structure All ETPs allow investors to gain exposure to an underlying asset or benchmark. To do this, ETPs need to be underpinned by the assets they re designed to track. There are two ways to structure them, physically or synthetically. Physically backed ETPs The ETP issuer buys and holds the underlying assets the ETP is designed to track. The ETP will either own all or a sample of the assets that comprise the underlying benchmark. The two asset classes most often physically replicated in an ETP are equities and fixed income. Full replication All the underlying assets are held in the same proportion as their weighting in the index being replicated. Sample replication Instead of holding all assets that constitute an index, the product holds a sample of some of the index constituents. Physically backed commodity ETPs In some instances, commodity ETPs can also be physically replicated, providing exposure to precious metals without having to take delivery of the underlying. Physically backed commodity ETPs are backed by a specific quantity of commodity This is only possible if the asset can be easily stored for long periods for a relatively cheap cost and is not perishable. Possible for precious metals Allocated metal means that uniquely identifiable physical metal (e.g. gold bullion bars) cannot be moved or used for any other purpose

4 Synthetic ETPs The ETP issuer does not hold the underlying assets of the ETP. Instead, the ETP issuer enters into a swap agreement with a counterparty - usually a bank - that contracts to provide the return of the underlying assets. A swap agreement is where the parties swap the return of one investment for another; or, alternatively, one party pays a fee for the return of a particular investment. For example, if an ETP issuer agrees to pay a fee for the performance of the FTSE 100 and if the FTSE 100 rises by 1%, the swap counterparty pays 1 % (less swap fee) to the ETP issuer. If it falls by 1%, the ETP issuer pays the difference to the swap counterparty. Index return Investor money ETP issuer Swap counterparty Money utilised under a swap agreement Collateral deposited with third-party custodian If the swap counterparty defaults, the ETP issuer can sell the collateral and return the money to investors. Swaps are generally guaranteed through the provision of collateral deposited with a third-party custodian. Total cost of ownership There are a number of factors that influence the total cost of owning an ETP The most widely reported cost is the total expense ratio (TER) - the annual cost of managing the product. This can be misleading in respect to total cost of ownership as the definition of TER can vary and can neglect a number of important internal and external costs Instead, investors should look at the total cost of ownership detailed below: Internal costs TER Rebalancing costs Swap fee Securities lending revenue External costs Bid/ask spread Brokerage and platform fees Tax Total cost of ownership Tracking difference (adjusted for performance)

5 How can investors purchase ETPs? Login to online brokerage account Identify ticker code for desired ETP Input ticker code and number of securities Finalise and place order Place execution order Some considerations when investing in ETPs Market risk ETPs replicate the price movements of their underlying benchmark or asset so their performance is affected by the volatility of their underlying markets Currency exposure Any investment involving a non-local currency will be affected by exchange rate fluctuations (unless the product incorporates a currency hedge) Tax As with the majority of investments, ETPs will usually incur some form of taxation. Investors should obtain independent tax advice before investing in ETPs Costs Investors in ETPs incur costs, whether internal costs (related to the product) or external costs (incurred in trading the product) Tracking difference The structure and cost of an ETP means it may not track its underlying exactly Counterparty risk The introduction of swap and securities lending counterparties is an added risk. It is important to ensure counterparties are independent and collateral is provided

6 Important Information This communication has been issued and approved for the purpose of section 21 of the Financial Services and Markets Act 2000 by ETF Securities (UK) Limited ( ETFS UK ) which is authorised and regulated by the United Kingdom Financial Conduct Authority ( FCA ). Investments may go up or down in value and you may lose some or all of the amount invested. Past performance is not necessarily a guide to future performance. You should consult an independent investment adviser prior to making any investment in order to determine its suitability to your circumstances. The information contained in this communication is for your general information only and is neither an offer for sale nor a solicitation of an offer to buy securities. This communication should not be used as the basis for any investment decision. Historical performance is not an indication of future performance and any investments may go down in value. This communication may contain independent market commentary prepared by ETFS UK based on publicly available information. Although ETFS UK endeavours to ensure the accuracy of the content in this communication, ETFS UK does not warrant or guarantee its accuracy or correctness. Any third party data providers used to source the information in this communication make no warranties or representation of any kind relating to such data. Where ETFS UK has expressed its own opinions related to product or market activity, these views may change. Neither ETFS UK, nor any affiliate, nor any of their respective, officers, directors, partners, or employees accepts any liability whatsoever for any direct or consequential loss arising from any use of this communication or its contents. ETFS UK is required by the FCA to clarify that it is not acting for you in any way in relation to the investment or investment activity to which this communication relates. In particular, ETFS UK will not provide any investment services to you and or advise you on the merits of, or make any recommendation to you in relation to, the terms of any transaction. No representative of ETFS UK is authorised to behave in any way which would lead you to believe otherwise. ETFS UK is not, therefore, responsible for providing you with the protections afforded to its clients and you should seek your own independent legal, investment and tax or other advice as you see fit. This communication is not, and under no circumstances is to be construed as, an advertisement or any other step in furtherance of a public offering of shares or securities in the United States or any province or territory thereof. Neither this communication nor any copy hereof should be taken, transmitted or distributed (directly or indirectly) into the United States. ETF Securities (UK) Limited 3 Lombard Street London EC3V 9AA United Kingdom t +44 (0) f +44 (0) e infouk@etfsecurities.com