ETF Essentials Inside the ETF revolution Jack Fowler Vice President, iShares.
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Transcript of ETF Essentials Inside the ETF revolution Jack Fowler Vice President, iShares.
ETF EssentialsInside the ETF revolution
Jack FowlerVice President, iShares
Agenda
• Growth and Evolution of the ETP Market
• Recap: What is an ETF?
• Advantages of ETFs
• ETF Structures
• ETF Trading and Total Cost of Ownership
• Four Steps to ETP Selection
• Practical uses of ETFs
Growth and Evolution of theETP Market
Global ETP multi-year asset growth
European ETP multi-year asset growth
Europe vs. US – ETF Providers
ETF managers in Europe by AUM ETF managers in the US by AUM
Source: Global ETF Research and Implementation Strategy Team, BlackRock, Bloomberg. As at Sept 28 2012.
What is an ETF?
What is an ETF? Two great investment ideas brought together
ETFs
DiversifiedTradable during the
day
Diversified funds that trade
like stocks
Mutual FundStock
ETFs are index funds….They are listed and traded like a stock on major stock exchanges globally
Single Stock / Future
• Trading flexibility on exchange
• Intraday pricing
• Listed options
• Ability to borrow / short
• Any transaction size
• Variety of trading strategies
Index Fund
• Simplicity
• Transparency
• Risk control
• Cost control
• Consistency of returns
• Diversification
• Mutual Fund
• Open-End Fund
Exchange Traded Fund
+
ETFs occupy a unique position in the investment landscape: The intersection between and index fund and a listed security
Advantages of ETFs
Why are ETFs so popular?
Transparency • Investors know the ETF holdings, price and costs
Liquidity
• ETFs offer two sources of liquidity:
• Traditional liquidity measured by secondary market trading volume
• Multi dealer model boosts the liquidity of iShares ETFs
Diversification• ETFs provide immediate exposure to a basket or group of securities for instant diversification
• Broad range of asset classes including equities, bonds, commodities, investment themes, etc
Flexibility• ETFs are listed on exchanges and can be traded at any time the market is open
• Pricing is continuous throughout the day
Cost effectiveness • ETFs offer a cost-effective route to diversified market exposure
Physical Based ETFs
Source: iShares website as at 17/09/12 and is for illustrative purposes only
Example for Illustrative Purposes : iShares FTSE 100 Physical based ETF
Portfolio Managers purchase stocks to
represent the index
Exchange Traded Fund
Equity Market Volatility: Days with market move of more than 2%For professional clients / qualified investors only
Source: Bloomberg as at 18/09/12
Diversification with ETFs
Equities Fixed Income Alternatives Cash & Cash Alternatives
Commodities
World UK Gilts Property Short Term Treasuries
Broad
Developed Markets
International Government
Private Equity Precious Metals
Emerging Markets Index-Linked Gilts Global Water Commodity Producers
Large, Mid, Small-cap
Corporate
Growth Value Covered
UK Equity
ETF Structures
Structure
Exchange Traded Products (ETPs)
Exchange Traded Funds (ETFs)
• Physically replicating ETFs:
– Fully replicating
– Optimised/partially replicating
• Derivative replicating ETFs
Exchanged Traded Notes (ETNs)/Exchanged Traded
Commodities (ETCs)
Exchange Traded Instruments (ETIs)
• Different types of ETPs imply different levels of complexity and carry different structural risks. It is important for investors, especially the retail investor, to be aware of these risks.
Structure Prioritisation
Can we run it as a normal fund?
Fund holding physical securities
CommentsVehicle Choice
If not physical fund, will swaps be possible?
Fund holding swaps
Can this asset be practically stored?
Note backed by the physical asset
Will an institution guarantee the return?
Note backed by an institution’s credit
Can this product idea comply with
UCITS?
Compliance with the European Union UCITS Directive is critical to market funds from one EU country in other EU countries and UCITS demonstrates independent oversight and diversification
UC
ITS
No
n-U
CIT
S
Physical ETF
Derivativereplicating ETF
Physical ExchangeTraded Commodity
ExchangeTraded Note
Physical-based ETFs
Replicated
Optimised
Source: BlackRock. For illustrative purposes only.
For example: iShares FTSE 100 iShares EURO STOXX 50 iShares S&P 500
For example: iShares MSCI World iShares Barclays Capital
Euro Aggregate Bond iShares MSCI Emerging
Markets
Two types: replicated and optimised
Swap-based ETF
Source: BlackRock. For illustrative purposes only.
Key features:
Ability to construct UCITS compliant ETFs which are impossible to create with the physical structure
Full transparency (collateral, swap counterparties, swap exposure etc)
Good quality, UCITS-compliance collateral with an extra margin
Diversified counterparty exposure They are still not physical-based
ETFs
Multiple counterparties and over collateralised swap exposure?
Exchange Traded Commodities
For professional clients / qualified investors only
• iShares defines ETCs as debt securities that are backed by fully-allocated physical holdings of precious metals held in secured vaults
• Many ETCs are eligible for investment by UCITS but are not themselves units in a collective investment scheme as defined by the UCITS directive
• iShares ETCs’ assets are held in ring-fenced segregated accounts
• ETCs are typically backed by metal held in secured vaults
ETF Trading andTotal Cost of Ownership
23
How traditional mutual funds work
StockExchangeMutual Fund
Investors interact with the fund to buy or sell shares
Buyers
Sellers
24
ETFs work differently than traditional mutual funds
StockExchange
iShares
Investors buy and sell on an exchange and
are insulated from each other’s actions.
“Authorized participants”
Buyers
Sellers
Basic model for access
ETF
On a platform
Through a brokerPrivate
ClientAdviser
Generally ETFs are traded between brokers on the secondary market.
26
Compare volume and “on-screen” bid/offer data to total potential liquidity
Incr
easi
ng L
evel
s of
Liq
uidi
ty
Creation/Redemption
Liquidity
(Underlying Basket)
Secondary Market ADV
Primary Market
Market Maker
Indications of
Liquidity
ETF Market Depth
• Generate Transaction Cost Analysis (TCA) and provide limit order guidance
• Help source liquidity through relationships with 200+ specialist market makers
Identify available liquidity through 50+ APs via the creation/redemption process
For illustrative purposes only.
Trading and LiquidityiShares Capital Markets Group can assist clients with accessing each layer of liquidity.
Passive Market Growth = More Passive Providers
Lower TER = Lower Total Costs
Total Cost of Ownership
New Providers = More Competition
New Providers More Competition = Lower TERs
= More Competition
Total Cost of Ownership
The true cost of owning an ETF
• Total Cost of Ownership:
– Is NOT just TER.
– Can be broken down into both internal as well as external factors.
• BlackRock believes Total Cost of Ownership is an accurate measure of investing in an ETF.
Internal factors
Physicalreplicating
funds • Trading spreads.
• Creation/redemption.
• Brokerage fees.
• Tax.
External factors
Total Cost of
Ownership
Derivativereplicating
funds
• Total Expense Ratio (TER).
• Swap spread.
• Securities lending revenue.
• Total Expense Ratio (TER).
• Rebalancing costs.
• Securities lending revenue.
+ =
Total Cost vs. TER – A Selection of iShares ETFs
Source: BlackRock, Bloomberg. Data as at end of March 2012.
Total Expense Ratio vs. Total Cost of Ownership
Four Steps to ETP Selection
Four Steps to ETP Selection
Evaluate the ETP Provider
Rule in and Rule Out Criteria: Tax, Legal and Compliance
Evaluate the Product Structure
Select the Product
1
2
3
4
Introducing iShares Due Diligence Framework
1. Evaluate the ETP provider
2. Quick rule in rule out criteria
3. Evaluate the product structure
4. Select the product
GeneralPerformance:
tracking error andtracking difference
Trading and valuationTotal Cost
of Ownership
Four Steps to ETP Selection
Practical uses of ETFs
Why do financial professionals use ETFs?
Diversification
Tradability and flexibility
Cost effectiveness
Tax efficiency
Transparency
Performance vs. active funds
Manage risk Spend less, save more
Seek to outperform other investments
Express a view
Return Risk
Costs
Practical uses of ETFs
Implementing Core / Satellite Strategies
Core - passively managed vehicles, such as ETFs or traditional index pooled funds lend themselves ideally to the core component of an investment portfolio due to four main reasons:
•Broad diversification by closely mirroring asset class benchmarks
•Consistent performance relative to a benchmark
•Low costs
•Improved risk management
Satellites - are typically more specialised investments which serve as active tools to deliver additional returns (alpha). ETF satellites have a number of advantages:
•Precise exposure to a wide range of discrete market sectors, specific styles or market capitalisations indices.
•Exposure to selected market segments at low costs
•Eliminating security selection or manager selection risk
Active Strategy 2
Active Strategy 3
Active Strategy 1
ETFs
ETF Satellite
ETF Satellite
ETFSatellite
Portfolio
Strategic and tactical
Strategic Model Portfolio
Thematic Model Portfolio
Tactical Model Portfolio
Add short-term
views
Express thematic
views
For illustration purposes only.
iShares Advantage
Who is BlackRock?
BlackRock’s capabilities are built around our clients’ greatest needs:
Client focus
• We partner with clients and their advisers to build portfolios that reflect their objectives, risk tolerance and time horizons
Broader capabilities for better outcomes
• We provide an industry-leading breadth of investment solutions across active management, quantitative, and index strategies, including our iShares® ETFs
• A dedicated group—BMACS—creates customized, multi-asset solutions to address specialized needs
Global insights to uncover opportunities
• Some 100 investment teams in 27 countries share their best thinking to gain the insights that can change outcomes
Culture of risk management
• BlackRock’s risk management team works with portfolio managers while remaining truly independent, so their recommendations are unbiased and portfolio managers can make more informed decisions
BlackRock is a truly global firm that combines the benefits of worldwide reach with local service and relationships. We manage assets for clients in North and South America, Europe, Asia, Australia, the Middle East and Africa. The firm employs more than 10,100 talented professionals and maintains offices in 27 countries around the world. As of Q3 Earnings Report, BlackRock's assets under management total US$3.673 trillion across equity, fixed income, cash management, alternative investment, real estate and advisory strategies.
Expertise across asset classes
Source: $3.67 trillion in assets as of 30 September 2012 includes commodity and currency mandates
BlackRock historical perspective
1 2 4 8 17 23 53 69 83 105 131165
204239
273309 342
452
1,125
1,357
3,6843,513
1,307
3,3463,561
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
1Q
12
2006: Merger of BlackRock and MLIM
2005: State Street Research and Management acquisition2000: Launched
BlackRock Solutions®
1999: IPO (NYSE: BLK) Broad employee ownership
1988: Founded Blackstone Financial Management
1992: Changed name to BlackRock
1995: Merged with PNC, offered common vision & fund platform
2007: Quellos Group, LLC acquisition
2008: Launched Financial Markets Advisory Business
2009: Mergerof BlackRock and BGI;
Hired Professionals from R3 Capital Partners`
1998: Integrated equity, fixed income, liquidity, and mutual funds under BlackRock name
Assets under management ($ billions)
2008: Launched Financial Markets Advisory Business
What sets iShares ETFs apart?
Our Focus
Our Experience
Our Scale
+
+
Total Performance philosophy
Holdings published daily
Award-winning website
Largest ETF provider in the world
607 ETFs listed globally
$711.8 billion in assets1
Source: ETP Landscape Industry Highlights Montly Report September 2012
Part of BlackRock, the world’s largest asset manager
Over 40 years of indexing experience
Deep roots in every world region
Return Risk
Costs
iShares ETP Due Diligence Guide Key questions
Structure
Tax
Performance
Trading
Total Cost of Ownership
Securities Lending
iShares Four Steps to ETP Selection
Due Diligence Resources and Tools
Q & A
DisclaimersRegulatory InformationBlackRock Advisors (UK) Limited, which is authorised and regulated by the Financial Services Authority ('FSA'), registered office at 12 Throgmorton Avenue, London, EC2N 2DL, England, Tel +44 (0)20 7743 3000. iShares plc, iShares II plc, iShares III plc, iShares IV plc, iShares V plc and iShares VI plc (together 'the Companies') are open-ended investment companies with variable capital having segregated liability between their funds organised under the laws of Ireland and authorised by the Financial Regulator.
Restricted InvestorsThis document 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 in the United States or Canada. This document is not aimed at persons who are resident in the United States, Canada or any province or territory thereof, where the companies/securities are not authorised or registered for distribution and where no prospectus has been filed with any securities commission or regulatory authority. The companies/securities may not be acquired or owned by, or acquired with the assets of, an ERISA Plan.
Risk WarningsInvestment in the products mentioned in this document may not be suitable for all investors. Past performance is not a guide to future performance and should not be the sole factor of consideration when selecting a product. The price of the investments may go up or down and the investor may not get back the amount invested. Your income is not fixed and may fluctuate. The value of investments involving exposure to foreign currencies can be affected by exchange rate movements. We remind you that the levels and bases of, and reliefs from, taxation can change.
BlackRock has not considered the suitability of this investment against your individual needs and risk tolerance. The data displayed provides summary information, investment should be made on the basis of the relevant Prospectus which is available from your Broker, Financial Adviser or BlackRock Advisors (UK) Limited. We recommend you seek independent professional advice prior to investing.
In respect of the products mentioned this document is intended for information purposes only and does not constitute investment advice or an offer to sell or a solicitation of an offer to buy the securities described within. This document may not be distributed without authorisation from BlackRock Advisors (UK) Limited.
The Dublin domiciled funds which include the term ‘swap’ in their names are swap based funds. These funds enter into fully funded swap agreements with counterparties to obtain the performance of the funds’ respective benchmarks. Swap transactions are subject to the risk that counterparties may default on their obligations. If this were to occur, the relevant fund may sustain a loss. The funds intend to mitigate much of their credit risk exposure to each counterparty by obtaining collateral from the counterparty which will be held by a third party collateral agent. In the event of a default by a counterparty or collateral agent, the swap funds may still have some counterparty risk exposure to the defaulting counterparty or collateral agent respectively. In some circumstances, counterparties can terminate the swap agreements early which may impact the returns of the funds. In addition, the counterparties may seek to pass on any additional costs relating to the hedging of their risk exposure under the swaps to the relevant fund. In the event that a swap fund is unable to enter into suitable swap arrangements or maintain swap arrangements on acceptable terms, the fund may not be able to achieve its investment objective and policy unless it is able to track its benchmark by other means.