Limited product choice and high management fees have deterred local institutional investors from using ETFs, and while a few have begun to explore this strategy there still remains a lot to learn from global markets, writes DREW CORBETT*.
The Australian Exchange Traded Fund (“ETF”) industry has been one of the fastest growing and exciting areas of the investment products market in Australia over the last two years.
Year on year growth during this period has been in excess of 50 per cent. But most of the greater than $5 billion in Australian ETFs has been sourced from retail investors. This stands in stark contrast to the European and US markets where institutional investors have been heavy users of ETFs for some time.
In the US, about 60 per cent of ETF assets under management derives from institutional money with 90 per cent of the largest 20 US mutual funds using ETFs. The use of ETFs in Europe is skewed even more towards institutions with about 80 per cent of AUM deriving from institutional sources.
Limited product choice and the comparably high management fees of ETFs compared to securing exposures via index managers have been the major deterrents for local institutional investors.
In Australia the early adopters of institutional ETF usage have been Sunsuper, which allocated $200 million to ETFs in 2010, and the van Eyk Blueprint Global Fund, which diverted 20 per cent of its emerging markets portfolio to ETFs in May this year.
There have been trickles of institutional ETF use in Australia but many of the common ETF strategies used by US and European managers to generate and enhance returns have yet to be explored.
Transition management has been the biggest single use of ETFs by Australian institutional investors and involves maintaining market exposure during prolonged periods for transitioning managers.
During the tendering for a new manager, ETFs provide an option to invest proceeds of the manager liquidation until a new mandate has been awarded. This should become even more prominent in Australia as consolidation increases and transition management specialists provide access to ETFs.
In the US, 38 per cent of pension funds and 31 per cent of funds managers are using ETFs for this purpose.
A typical strategy of US or European institutional investors is to lock in over- or underweight exposures to certain sectors based on short- to medium-term outlooks using sector ETF.