030 | Exchange traded funds

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Tutors:

  • Heinrich Schutze, Vice President Business Development, iShares UK
  • Tim Hodgson, Interim Head of UK Intermediary Sales, iShares UK

Learning outcomes:

  1. How ETFs are constructed
  2. The benefits and uses of ETFs
  3. The risks of ETFs

Channel

Asset Management
Learning outcomes: 1. How ETFs are constructed 2. The benefits and uses of ETFs 3. The risks of ETFs Tutors on the panel are: Heinrich Schutze, Vice President Business Development, iShares UK Tim Hodgson, Interim Head of UK Intermediary Sales, iShares UK ETFs: a definition and how they differ from tracker funds HEINRICH SCHUTZE: That’s a great question. ETFs are changing the world. They are providing advisers all over the globe great opportunities to build better portfolios for their clients, helping them solve real client challenges. They do that by being diversified, liquid, transparent, as well as very cost effective. And ETFs are really no more than a form of an index fund. So like a traditional index mutual fund, they track indices, they do that in a transparent way, but they also have the added benefit of trade on a regulated stock exchange, so in our case the LSE. And in that case they share many of the characteristics of a traditional flow product, like a direct equity. So for example, you have low order sizes, i.e. the smallest amount you can trade is simply one share, you have the ability to place limit orders and you can trade in real time. PRESENTER: And how do they differ from tracker funds then? HEINRICH SCHUTZE: They differ really in two key ways, so choice and access. If I start with the latter, so access, how you trade them is one of the key differentiators between ETFs and mutual funds. So mutual funds of course, as you will be aware, they trade once a day at a forward valuation point directly with the fund company. ETFs on the other hand trade continuously throughout the day, as soon or as long as the stock exchange is open. You have the ability to place an order at any point in time, at a known price. Of course, most financial advisers will – and I appreciate this point – rightly say well we don’t need the ability to trade in real time, because we are investing for our clients for the next ten, 15, 20 years, so whether we place a trade at 9:35 in the morning or at 14:15 in the afternoon makes neither here nor there. And that’s correct. What I would say, however, is, and I would almost turn it on its head and say well actually think about any other walk of life where you buy a good or indeed a service, I certainly can't think of any off the top of my head where you buy a good or service without knowing the price at the time that you buy it. ETFs, you know the price at the time when you buy the fund. It is not an unknown quantity where you will find out for example tomorrow at 12 o’clock how much you got for your sale or what you have been charged for your purchase, effectively. PRESENTER: Well I get that on the sort of access and the attention to detail, but what about the choice? HEINRICH SCHUTZE: The choice, ETFs are fantastic in offering you choice. So very ballpark figures, you probably have ten times as much choice in the ETF world compared to traditional index mutual funds. So I’ll put numbers on it for you. At BlackRock we run both index mutual funds and indeed ETFs on the iShares banner. And in the mutual fund world, we have 17 mutual funds covering broad core asset classes, whereas on the ETF side of the business at iShares, we run almost 200 individual ETFs. So of course some of those asset classes will be the same core UK equities, North American equities, etc., but you may also find, and you do find a lot more choice, a lot more granularity, the ability to be more precise with your asset allocation in ETFs. Constructing an ETF: balancing accuracy vs cost of tracking PRESENTER: And how are ETFs constructed exactly? HEINRICH SCHUTZE: The majority of ETFs are constructed via physical replication. So where we as the portfolio manager simply buy and hold the underlying securities, whether that is bonds or indeed equities, exactly like a typical mutual fund. There are different ways in which you can replicate an index, and it can be done either via what you call full replication or indeed partial replication, otherwise referred to as optimisation. Full replication arguably is the most transparent and the most easy to understand way of doing things, because if you're buying a liquid index such as for example the FTSE 100 or Euro Stoxx 50, where there is a relatively small number of constituent parts and they are all in their own right very, very liquid, of course it is easy as a portfolio manager to simply buy every single one of those constituents in the right proportion and hold them like that within the fund structure. Of course if you have got much, much broader indices, so it could be emerging markets that comprise 800-odd stocks from 21 different countries, it could be a broad bond index such as a Barclays Euro Aggregate, where you have more than 3,000 bonds comprising the underlying index. In that instance, it may sometimes make more sense to not quite buy every single one of the underlying constituents, purely to try and save a little bit of transaction cost for the fund. But that is not to be confused, I think, with active management. So this is not the portfolio manager making active calls on which stocks or bonds to take out of that basket; it is simply an efficient way of replicating the index without incurring all of these transaction costs associated with buying some of the very small constituents. TIM HODGSON: Yes, I think I'd like to add there, the crucial point really is the balance between the accuracy of tracking and the cost of tracking. So we at iShares believe if you can physically replicate and it’s possible to do so, and fully physically replicate, that is your best tracking vehicle. The reality, as Heinrich says, is in some of these indexes, there are huge numbers of stocks or bonds that make it not cost effective, and the cost of the fund would therefore be far too high. So it’s that tradeoff all the time between what’s the most accurate versus what can we do cost effectively for our clients? Exchange traded products and exchange traded notes PRESENTER: Well it’s interesting, because you mentioned stocks and bonds, but can ETFs invest in real assets as well? HEINRICH SCHUTZE: Potentially they can. So this is where we’re talking about potentially slightly different things. So in exchange traded products, we have a plethora of three letter acronyms available. We like alphabet soup in our industry I guess. So we have references to ETPs, exchange traded products. That’s not a product in its own right; that’s really just an umbrella terminology in encompassing a range of underlying products that each share different characteristics and different structural efficiencies and potential risks. So ETFs, exchange traded funds, they are, as we have sort of briefly touched upon already, they are regulated funds where you have, like any mutual fund, you have segregation of assets, you have independent custodianship, you have regulatory oversight. You know, they comply for example with the UCITS framework and can be sold throughout Europe to that effect. What you also have then is something called ETNs, exchange traded notes, and indeed exchange traded commodities, ETCs. Exchange traded notes and exchange traded commodities, they are not funds technically speaking, because they will typically fall foul of the diversification rule under UCITS. They comprise typically commodities, as the name suggests, and they are debt instruments, typically on a special purpose vehicle. In iShares terminology, when we refer to exchange traded commodities however, that is where that debt instrument is backed up by the physical commodity in the form of for example precious metals. So gold, silver, platinum, palladium, it is nevertheless still a debt instrument, but the debt instrument is backed by a similar amount of wholly allocated metal in a secure vault. You then have ETIs, exchange traded instruments, which is really just a blend of pretty much anything else that trades on exchange. But what’s important to note with all of these three letter acronyms is that they carry different structural risks; it’s risks that investors, advisers need to understand and be familiar with, and they have very different characteristics in what they deliver. The benefits of ETFs to investors PRESENTER: And sticking on ETFs for a minute, what are the benefits of ETFs? HEINRICH SCHUTZE: Benefits are really a number of things. So diversification, in one single fund you can get very, very broad diversification when you're building portfolios. So depending on the index you track obviously, there could be potentially thousands of underlying stocks and or bonds within one single ETF. Liquidity, as talked about before, they trade continuously throughout the day on a regulated stock exchange. So if investors have a need from time to time to quickly get into or indeed get out of the market in times of stresses or because they need to realise some money for some other purpose, they offer you that facility, and at least you know the price you are transacting at. They are great building blocks because they give you granular exposure to a very precise set of assets. So it’s about understanding I guess what the index you are tracking is looking to deliver, and whether or not that fits your purposes. So there is a common myth very often perpetrated that index funds are all the same, you know, and you don’t need to carry out due diligence etc. on index funds, but it’s very, very important for investors and advisers to understand what the index they are tracking is setting out to deliver. And bearing in mind of course that index funds such as ETFs are ultimately trying to deliver the returns of the chosen index, it has to be understood by the client what they're getting themselves in for. Also the latter point with ETFs, they are cost effective. So since RDR in particular we have seen a steady drive from a lot of advisers to try and reduce the underlying cost of their portfolios, and for example by including a few ETFs within the portfolios, they can help to reduce the cost. PRESENTER: And Tim, where do they fit in things like ISAs or SIPs. I mean what, how…? TIM HODGSON: Well I think the first thing to say is much like mutual funds, you can invest in ETFs throughout ISAs and SIPs on most platforms. So availability-wise, access-wise, they're very easy to use, and to Heinrich’s point really, it’s about accuracy. It’s about getting the exposure you're actually looking for. So as Heinrich mentioned, 260-odd products in the iShares Dublin range give you that access and that exposure, but you can put it with any of your kind of regular savings vehicles that you would ordinarily use. PRESENTER: And Heinrich, you're talking about how fabulous these products are, but are they cost effective for investors? HEINRICH SCHUTZE: Arguably, yes. They are better priced than the majority of active funds certainly that I have ever come across, and it’s about getting clients access to something that is clean and transparent also in terms of the cost. So ETFs, to my mind, are democratising investment. They are making index vehicles, funds available to the smallest investor, the man on the street, your average client, exactly in the same format as the largest global multiasset investor or the world’s biggest central banks. So unlike mutual funds where we currently have an alphabet soup again of different share classes and lots of talks going on right now between clean share classes, super clean share classes, etc. etc. and the complications that entails, those kind of issues you do not have with ETFs, because there is one share class that is priced very cost effectively, there’s one share class only, and that is the one that is accessible by every single client, large or small. ETF user base – the move from institutional to retail PRESENTER: Well Tim, this is obviously an industry that’s growing rapidly, but who exactly are using ETFs? TIM HODGSON: I think that that’s a great question, because I think there’s a perception broadly within the marketplace that ETFs are institutional products. And there’s no doubt that when ETFs were invented and created, they were to solve a very specific requirement for clients, i.e. the things that Heinrich’s touched on, easy, liquid, short-term access to market exposure, diversified market exposure. And so they were inevitably used by institutions for those kind of short-term exposures. I think over the last ten years we've seen a real change in that approach. We've definitely seen a huge uptake of ETFs across many different client segments now, but it’s more than doubled the size of the ETF market over the last ten years. And not least in Europe, I think there’s a really, you're starting to see it now, they're being heavily used by advisers and by people in the retail industry in the US, but we’re seeing that as well in the UK and Europe now. So there’s about $2bn on platforms in the UK, coming from those retail clients, and I think if you look at the percentage split of business across Europe, it’s something in the region of 70% to 30%, 70% institutions using these products versus 30% retail money. And that trend is definitely towards retail. PRESENTER: I can see that more retail people are starting to use it, but is that ultimately, just because they are using it, is that really proof that they're a retail rather than an institutional product? TIM HODGSON: Well I would say that they're starting to use them for the reasons that Heinrich’s talked about. So because they are cost effective, because they are liquid and they are physical and they are proper funds! You know, they are offering you the same exposure as a mutual fund, it’s just more accurate, and the fact that you can trade it during the day is starting to be, the benefits of those products are starting to become more obvious in the retail space. PRESENTER: And over the last decade, how has the way that people use exchange traded funds changed? TIM HODGSON: I suppose, and I think where you're seeing a big difference, ten years ago they were short-term exposures. So let’s say the TER, the cost of the product wasn’t solely the most important thing, people’s ability to trade them on exchange, the volumes, because they were in and out vehicle, people were using them to get in and out of exposures very quickly, that was the predominant use. As we've moved into this kind of more retail space, and therefore the holding period of these products goes up, people hold them for longer in their ISAs and their pensions as you mentioned, then TER starts to become more interesting. So we've seen TER start to come down across ETF land. So I think that kind of evidence that the cost of getting into and out of these products is not the only thing that matters anymore, a real TER conversation is happening as well, which is good news for everybody because it’s driving that overall price down. PRESENTER: And how much scope is there for growth in this market? TIM HODGSON: I think you could argue we've only scratched the surface. So in retail land across the US, they are very heavily used now. So there’s a real lack of concern really about accessing these products and people are used to using active funds and they're used to seeing passive vehicles as ETFs. I think we’re not quite there yet in Europe. So in the UK the use of passive mutual funds is much more prevalent, or much more accepted and common than ETFs. But I think as we've seen the numbers go up in the retail space, and as we've seen usage on platforms for example start to come through, then that’s driving this kind of increased use of ETFs. The risks and costs of ETFs and how to calculate them PRESENTER: But what are the risks of ETFs? TIM HODGSON: Well I suppose, how do you quantify the risk of an investment product? The first thing to say is these are physical entities, they own the underlying stocks in the majority of cases. So your primary risk of buying an ETF is exactly the same as your primary risk of buying an active fund. Let’s say you buy the S&P 500 and you buy it in an ETF form. The biggest risk attached to that is the performance of the S&P 500 index, and that would be true whether you bought the active fund that was managing against the S&P 500 or the passive mutual fund. The ETF has exactly the same risk exposed to it. So that’s the first thing to say. The second thing is then the structural risk of the product, is there anything specific about an ETF? And in the case of physical products, i.e. where you are buying the underlying 500 stocks in the proportion they are in the index, then there isn’t really anything, any additional risk attached to the structure than there is in the same passive mutual fund. So structural, exposure and tracking error, tracking is kind of the be all and end all, right, to a tracking product. The biggest risk is not tracking it very well. So that comes back to the quality of the provider, the quality of the product, but absolutely, people often ask what’s the cost of tracking an index, and people talk about the TER as the cost, but actually in reality the cost of tracking an index is how much you underperform it, i.e. your tracking difference to your tracking error, which as soon as you start to apply charges tend to come along. PRESENTER: Well you touched on tracking error there. I mean Heinrich, how much do ETFs actually cost? HEINRICH SCHUTZE: Well it’s a very good question, and it’s one that I think needs digging slightly below the surface compared to what many investors may instinctively think about. Because although ETFs, unlike mutual funds, do not operate with annual management charges, we operate with total expense ratios, However, for an investor there is more to it than that. So you need to execute the ETF as well, you need to buy it and most investors, unless they have a kind of Warren Buffett buy until you die philosophy, they will probably also need to sell it again. And the cost of buying and selling needs to be added onto the cost of holding them in the middle, to give you what we at iShares call the total cost of ownership. So what may you need to look at there? Well you need to look at two main things really. So what we call the internal costs of the ETF, which are costs that are wrapped up inside or are pertinent to the fund itself. So the TER being clearly one of the key points of that, but you also have things like transaction cost. So when the index rebalances, so for example the FTSE rebalances on a quarterly basis, any stocks that drops out of the index, a portfolio manager that tracks the index needs to sell, any new stocks that come into the index, the portfolio manager will need to buy. The transaction cost associated with that, so the index rebalancing costs, that is not part of the TER because you cannot quantify that upfront. It’s not easy to get that number either unfortunately, because that is not disclosed in the kind of daily fund fact sheets you find on the website. But you also have then opposing revenues potentially, from things like securities lending, which can actually help to lower the cost of holding that instrument by generating revenue from time to time from securities lending. TIM HODGSON: I'd just like to pick up on the securities lending point actually, just back to your question about what are the risks. One of the risks that’s often talked about with ETFs, and one of the things that hit the Press over the last 18 months, is this notion of securities lending. It makes us as investors naturally quite uncomfortable to think that there are people lending the stocks that are owned in the fund to somebody else for a revenue. The reality is this has been going on in mutual fund land for decades. It’s not an uncommon practice in mutual fund land, and that goes for active mutual funds and passive mutual funds. So I think the really crucial thing to understand about securities lending is what is the policy of the organisation that you're buying the product from, so in our case iShares, what is the iShares stock lending policy? Now all of those stock lending policies for whichever product, whichever mutual fund or whichever ETF you buy should be available from the provider that you're buying it from, and absolutely if you come to the iShares website for example, all of the requirements and the rules and the regulations around stock lending are very explicit and easy to find. PRESENTER: So you do stock lending, but only to certain types of people. TIM HODGSON: Absolutely, we stock lend. We don’t stock lend in the entire portfolios. We’re careful about who we lend to. We’re careful about what collateral we take back in exchange for the stock. So we have some very, we believe some very robust processes and procedures attached to it. But you'd like to think anybody did. But it’s part of the investors’ due diligence process I suppose to understand those a bit better. How to purchase an ETF PRESENTER: And Tim, tell us a bit more detail, how do you go about buying ETFs? TIM HODGSON: I think it’s a great question, because today it’s one of the biggest concerns I suppose that most retail investors have about ETFs, is well I'm used to buying mutual funds, so I understand the process and I understand that I can go to my standard platform and buy my kind of usual either active or passive mutual funds. And there’s a perception that somehow ETF trading is much more difficult. Well Heinrich mentioned ETFs by definition trade on an exchange. So you absolutely can go to a stockbroker and buy your ETFs directly, but the reality is today in retail land, 26 of the 28 advised platforms in the UK now sell ETFs. So in exactly the same way as you would go to your platform and buy a mutual fund, you can go to your platform and buy an ETF. So they are incredibly easy to access today. The due diligence process for advisers PRESENTER: And what are the buying stages for getting an ETF into a portfolio? TIM HODGSON: Well in much the same way as the buying steps for an active or a passive mutual fund really, an adviser would sit down with his client, he would do the attitude to risk situation and understand the client’s capacity for loss, and all of those kind of things, and at the end of that he would come up with an asset allocation that fits that client’s risk profile. Now that asset allocation might have let’s say 20% allocated to US equities. He then has a choice about how he gets the exposure to that US equity product, and I would say the historical view is that you would either buy an active fund and you would understand that quality matters in that active fund space. So how many analysts the guy has, how many stocks he owns, how many people he talks to, what’s his style, all of those things are part of your due diligence process when choosing an active fund. It’s no different when choosing a passive product, so an index mutual fund or an ETF. The only difference is you're not looking at the guy’s style in that case, you're looking at how closely does that product track the index. So allocating to a US and let’s say an S&P 500 ETF, you just do your due diligence in the same way, but it would fit the same part of the portfolio as an index mutual fund or as an active fund. PRESENTER: How do you go about choosing the right ETF, Heinrich, given some of the complexities we've been talking about? HEINRICH SCHUTZE: Yes, good question, and that’s a good segue from Tim, with due diligence. Because it’s very, very important than advisers and clients still carry out due diligence on ETFs, and indeed index mutual funds for that matter. It is not just something that they have to do on active funds. Index funds, ETFs are not all created equal. There are some potentially key differences that are important for investors to understand and look into. So at iShares we have written a big paper on ETP due diligence, which is widely available from our website, but it really breaks down the process into four main steps. So one, know the provider, understand what the provider does, if they are available, if they are able to track an index efficiently. The second step is perhaps a couple of sort of quick rule-in rule-out criteria. I’ll come back to examples of that. Step three is the structure of the ETF, and then step four is to actually select the product. But if you go up to step one, so the provider, to us that is by far and away the most important decision you make when you choose an ETF, when you choose an index vehicle, because index funds cannot be managed efficiently in a boutique operation. Active funds potentially can be managed very successfully from a boutique operation if you have a niche area of expertise, you know, being it small caps or US equities, whatever that expertise may be. But index vehicles, because of the slimmer margins, you really need scale and size. So is the asset manager committed to this space? Do they have a proven track record of tracking indices and running index vehicles such as ETFs? Do they have robust risk management procedures in place to manage these ETF portfolios? Do they have a dedicated team of portfolio managers to actually manage and supervise these funds? Because, again, contrary to popular belief, perhaps, certainly for the average man on the street, ETFs and index funds are not just run by computers; at BlackRock we have a team of around 135 portfolio managers globally who only run index funds for us, and there is a lot of skill involved there, it is not just done by computers. So it’s understanding all of those areas, and really carrying out a structured and a detailed due diligence into the provider in the first place, to us is a very good starting point. Secondly, I mentioned the sort of quick rule-in rule-out criteria, and that could be very basic such as where is the fund domiciled? So for the purposes of funds listed on the LSE, they tend to be domiciled in Dublin for tax purposes. Is it UCITS qualifying, so does it comply with the UCITS framework of diversification, regulation, oversight, etc.? Then thirdly, about structure, so is it a physically replicating ETF, and if it is physically replicating, you know, is it fully replicated or is it optimised, or is it an ETN/ETC, or is it derivatives replicating ETF? Again, some clients have preferences for certain structures, and again it may just help you to whittle down the choice. And then finally, you go into the nitty gritty about the actual product, so you will most likely still have a small list of products from different providers available for you, and then you go into well how well do they track their chosen index? Whether you choose to rely on tracking error or tracking difference, that’s your preference, there is no necessarily right or wrong answer there. What we find from experience is that most retail investors, because of the longer term nature of their investments, they tend to care more about the tracking difference than the tracking error. So tracking difference, just to quantify that perhaps, is simply how many basis points does the fund trail, or in rare cases actually outperform the index by, so how closely is it tracking the chosen index? Tracking error on the other hand, that is the volatility of the tracking difference, so that is a measure that typically institutional investors who may be more tactical in their nature may care more about. TIM HODGSON: I think I just wanted to pick up on the structure piece, because I think it is one of the questions you get asked most in ETF land is are they physical or are they synthetic? And I really want to make the point that nobody hides that decision. I think broadly speaking the argument has been won for the retail investor across Europe that most products launched into ETF land today and most products used are physical, i.e. they own the underlying stocks. The point being though that on the occasions where that either isn’t possible or you would rather, you know, a synthetic will do a better job, nobody hides the fact that that’s a synthetic product. And you will see, it will be written in the front page of the kind of key features in the prospectus and on the fact sheet. So I'm really keen to, I just really want to stress that point, that we will use synthetic in our products where it’s appropriate to do so, but nobody’s pulling the wool over anybody’s eyes in that sense. The differing uses of ETFs in client portfolios PRESENTER: And Tim, just going back to something you were saying earlier about how people are using ETFs, can you run us through today how people are using them in portfolios? TIM HODGSON: Well I think what we've started to see across the retail piece is people start to use them for their core exposures. So let’s say it’s fairly well accepted, whether it’s true or not is a different matter, it’s fairly well accepted that it’s pretty difficult to beat the US market. The US market is a very efficient market, lots of analysts covering it, lots of people trying to beat it with funds, and lots of passive products around as well. So there is kind of an understanding and an acceptance that maybe if you're going to buy passive to bring down the overall cost of a client’s portfolio, then the US is not a bad place to do it. So we’re certainly starting to see those core exposures across retail land go into ETFs of the S&P 500, for example. I think where we’re starting to see an evolution of product again, so Heinrich mentioned the numbers earlier on, a lot of the product development that’s happening in index land is happening in the ETF space. So not just the core exposures, not just your FTSE 100, your S&P 500 and your euro stocks, but increasingly this phrase that has started to be used more and more of smart beta. So we prefer the phrase alternative beta, at iShares, because the suggestion that smart beta kind of suggests that regular beta is dumb, so regular market indexes aren’t very clever, whereas smart beta will never underperform. The reality is these things are factor based, so they perform at, dependent on the index they're tracking, they perform at different times in the market cycle, from the kind of regular indexes. And I think increasingly we’re seeing the evolution of those style of products and therefore an increased accuracy in what people are trying to achieve in their portfolios. PRESENTER: And how are people using index products to blend with active management? TIM HODGSON: I think again it’s a question we get asked a lot. So we’re at a space now post-RDR where people are very aware of cost, they're very aware of the difficulty frankly over the last ten years of generating real alpha on a consistent basis, so people are looking to, maybe five years ago I would have been asked the question do you believe in active or do you believe in passive? I think increasingly we’re not asked that question anymore, it’s about how do we combine. We wrote a piece as iShares a couple of years ago called Blending Insights, which is a generic look at I think it’s over 300 businesses around the world, and how they are blending their active and passive exposures, so that they can manage their cost down, but also get the best outcome for the client. And the reality is there is no one right answer. And I think that’s the difficulty with this question. And by no one right answer, I mean if you go out today and you buy every exposure you want to get, and you buy the active version, and you get the right active product, then you were right to choose active funds. If you go out today and buy every active product and get the wrong active product, you should have bought passive. So the reality is you don’t know that decision beforehand. So what people are starting to do is look for the markets like the US maybe where they perceive there to be little value to be gained from paying an active manager, so they will track the US market, but they might buy, I don’t know, an emerging markets product or something a bit more esoteric from active land. Increasingly though I think indexes are coming along that allow you to target some of those markets in different ways as well, so. HEINRICH SCHUTZE: If I may add onto that actually, what we are seeing very increasingly is fixed income being used to complement otherwise active portfolios. Because the yields are low, clearly that’s pretty much universally acceptable and maybe aside from emerging market debt, it is harder for active fixed income managers to add substantial alpha, and taking into account their arguably higher fees, we are finding many clients coming to us for fixed income exposure. And again what can we add to the party here? At iShares alone, and we’re clearly not the only provider in the marketplace, we have over 80 different fixed income funds available, of which no less than 25 are of a short duration nature. So if clients want to build their portfolios themselves, of course, and if they have the capacity and the capabilities to do so, we give them the building blocks to do so in a very manageable fashion, which very specific building blocks, whether it is duration basket, whether it is credit rating, so high yield or investment grade, whether it is sovereign or individual countries, etc. etc. The responsibilities of product providers PRESENTER: As a product provider, Heinrich, is your simply to provide choice and it’s up to the investors what they buy, or is your job to provide products you think are going to perform well? HEINRICH SCHUTZE: It’s our job to deliver clients to the exposures that they want really. So our product development is really driven by what clients are coming to us for. And I guess ETFs have expanded rapidly over the years, as Tim mentioned earlier on. We have a huge proliferation of funds, not just in the UK but globally, probably in the region of 5,000 different funds, and arguably not many individual investors will be using all of those funds. But we are probably seeing a commoditisation of some of the larger, more established indices, so S&P 500, FTSE 100, Euro Stoxx 50, etc., whereas those indices are now very commoditised. That is just about how well do you track them and how much does it cost to really track that index. Whereas the innovations we are seeing these days are in areas such as fixed income, such as alternative beta that Tim alluded to before, and it’s really more often than not it’s clients coming to us saying actually we would like to see this as part of our portfolio offering. TIM HODGSON: I think it’s worth making the point on that subject that we do bear some responsibility as a provider of these products to understand and to make sure that if we’re launching a product, and particularly in a kind of alternative beta space that is ongoing, that we are responsible partly to educate the end investor about the exposure they're getting. It’s our responsibility to understand the methodology of the index, and to make sure that we’re comfortable that the index that we’re going to track is going to deliver what we believe it’s going to deliver, and how we pass that message onto the clients. So I do think increasingly, and particularly in the retail space, we have a greater responsibility to work with clients, to help them understand what they can expect from index exposures. PRESENTER: So to bring all of this together, what’s the key message that you need to leave with investors when it comes to ETFs? HEINRICH SCHUTZE: Transparency! Transparency to me is absolutely unrivalled in ETFs. They are without a shadow of a doubt the most transparent investment vehicles on the planet. I can only talk on behalf of iShares obviously, but I would challenge any investor to look up any of our funds on the website, what you have is not just a monthly fund fact sheet that lists typically top ten holdings for you, you have a daily fund fact sheet that lists for you every single holding. You might argue and say well that’s not difficult because you're tracking an index, well absolutely, we are delivering on client expectations, because that is one of the key benefits of index vehicles like ETFs that we deliver purely and simply on client expectations. PRESENTER: Tim Hodgson? TIM HODGSON: I think I would kind of echo Heinrich’s point, but add accuracy. I think one of the things that ETFs, with the number of ETFs that there are in the marketplace, allow you to do is get exactly the exposures that you and your clients are looking for. So once you’ve run your attitude to risk process and come out with an asset allocation, you'll struggle not to find an ETF to populate the exact exposure you're looking for, and I think that is much easier in ETF land than it is in mutual fund land, for example. PRESENTER: We have to leave it there. Tim Hodgson, Heinrich Schutze, thank you very much. HEINRICH SCHUTZE: Thank you. TIM HODGSON: Thank you. Regulatory Information BlackRock Advisors (UK) Limited, which is authorised and regulated by the Financial Conduct Authority ('FCA'), having its registered office at 12 Throgmorton Avenue, London, EC2N 2DL, England, Tel +44 (0)20 7743 3000, has issued this document for access by Professional Clients only and no other person should rely upon the information contained within it. 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