Australian institutional investors may not have made big strategic allocations to exchange-traded funds (ETFs) but that does not mean they aren’t finding plenty of uses for the instruments, writes ADAM SECCOMBE, the director of BlackRock-owned iShares Australia. A growing number of Australian institutions are understanding the benefits of ETFs for risk management, cash equitisation, portfolio rebalancing and accessing hard-to-reach markets. They are incorporating ETFs into their investment process to manage risk and liquidity. This has led to a growth in Australian institutional demand for ETFs globally and in Australia over the past 12 months. Overall, the Australian ETF market saw spectacular growth in 2009 with market capitalisation rising 151 per cent, according to the ASX. This surpassed global ETF market growth of 45.7 per cent.

ETFs are index funds that trade like any listed share on a stock exchange. A single trade of an ETF provides a diversified portfolio of companies which reflects an entire market index. Fund holdings are transparent with visibility of what stocks are in the fund. There is now awareness that ETFs can be used in a variety of ways that makes them more than just a passive tool. Interim management, hedging exposures and rebalancing both long and short are examples of this. ETFs provide a means to implement asset exposures in many markets and sectors that are not easily available by other products such as futures. They can also provide instant liquidity at very short notice with little price impact. This offers large investors flexibility to move quickly with reliable pricing in many different markets.

Sovereign wealth funds are starting to see ETFs as a useful investment tool and are reported to be using iShares index funds to access the emerging markets, EAFE and the China. These exposures are available on the ASX under the tickers IEM, IVE and IZZ, respectively. Australian institutions’ usage reflects that of their global peers. It is estimated that institutions represent roughly half the US$736 billion of assets invested in US listed ETFs. Australian institutional investors are using these products as well as ones listed in Europe, Asia and Australia for various purposes including transitions, market access and cash equitisation. A recent Greenwich Associates report provides insight into how institutions are using ETFs. For example, US pension funds, endowments and foundations have increased their use of ETFs by about 14 per cent over the past 12 months.

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