Entering a new era
Category: China, Hong Kong, Japan, Taiwan, U.S.A., Asia-Pacific
By Hui Ching-hoo
Institutional ETF investment challenges
Asian institutional investors are increasingly turning to exchange traded funds (ETFs), mainly because of the high transparency and cost-efficiency that comes with them. Asia Asset Management and ETFI Asia, in conjunction with NASDAQ OMX, Invesco Great Wall, Hang Seng Indexes, and S&P Dow Jones Indices, hosted their second ETF roundtable in China, which was held in Shenzhen on March 22. The event brought together more than 25 key industry players who shared their thoughts and opinions on the latest developments taking place in the ETF and indexing arena.
ETFs and asset allocation
Robert J Hughes, vice president, NASDAQ OMX Global Indexes, was first up. He discussed the various trends and opportunities with regard to ETFs and indexes and emphasised the importance of investor education on a global basis.
“As market participants and stakeholders in the global ETF market, we have to make sure we are playing our part when it comes to investor education. That’s why NASDAQ will continue to show up at events such as this, continue to host webinars for investment advisors – to ensure that everybody has all the information they need to make smart investment choices when utilising ETFs,” he said.
Speaking as part of the day’s first panel, which was on assessing and choosing ETFs for asset allocation, Huang Ming, general manager, fund investment with PICC Asset Management Company, noted that ETFs have been gaining in popularity amongst Mainland institutional investors for asset allocation purposes due to the attractiveness of features such as high liquidity and low transaction costs.
“From the institutional investor’s perspective, we hope more alternative ETFs such as sector-linked, industrial-linked ETFs come on line in China, to provide even greater flexibility for investors seeking to increase their exposure to the industries they favour,” he said.
Mr. Huang pointed out that PICC Asset Management does not allocate its assets to ETFs on a permanent basis, preferring instead to use them as a volatility control tool. “In the past, we needed to short our position with ETFs to hedge against downside market risk. Now, however, after the China Insurance Regulatory Commission (CIRC) allowed domestic insurers to access index futures late last year, we can employ index futures as a proxy for ETF hedging.”
On the same panel, Liyu Zeng, S&P Dow Jones Indices’ director of index research and design, explained how her firm has launched various index products to accommodate the growing demand for risk control. For example, the S&P 500 VIX Short-Term Futures Index series the firm launched in 2009 offers investors directional exposure to volatility. The Proshares VIX Short-Term Futures ETFs launched by Proshares has become a commonly used hedging tool, which “has resulted from the low correlation with conventional asset classes such as equities,” she pointed out.
S&P Dow Jones Indices did launch a specific index series for asset allocation, she continued. For instance, it launched the Target Date and Target Risk Index Series, which helped defined contribution (DC) members and other individual investors to reposition their asset allocations in accordance with age and risk tolerance changes.
On the subject of ETF usage amongst institutional investors, Clare Zhao, director, institutional sales with Vanguard Investments Hong Kong Limited, said that ETFs are commonly used to complement their primary strategies or core portfolios. She noted some overseas institutional investors and hedge funds also make use of commodities, gold and alternative ETFs to hedge against currency and geopolitical risks, while developing their exposure to resource sectors.
In some cases, a single underlying benchmark index is tracked by numerous ETFs. When this is the case, Ms. Zhao says, institutional investors tend to take factors such as index methodology, coverage of benchmark indexes, and the bid/ask spread of the ETF share price into consideration when selecting ETF products.
Next, Xu Zhiyan, Hua An Fund Management’s general manager of the passive investment department, said he expects rapid growth for commodity-linked ETFs in China, noting that four domestic asset managers – Hua An, Bosera, E Fund, and Guotai – have applied to launch the country’s first gold ETFs in a bid to take advantage of the pent-up demand for gold from Mainland investors. He said he expects physical gold ETFs to be well received, pointing out that the linkage between gold ETFs and gold futures will be a help in terms of improving the ETFs’ efforts in regard to tracking error, management, and efficiency.
Johnnie Yung, director and head of beta strategies, Asia ex-Japan at BlackRock, cited Canadian pension funds as an example of the significance of ETFs to foreign institutional investors. “Given these pensions’ liability is pegged at around 30 to 40 years, they prefer to use large-cap ETFs as the core of their portfolios, and alternative ETFs for technical asset allocation,” he said.
Speaking separately, Chen Aiping, Invesco Great Wall Fund Management’s director of product development, said the ETF market in Asia is still in its infancy compared to its counterparts in Europe and the US: “In January 2013, there were a total of 545 ETPs listed on Asian exchanges with an aggregate total AUM of US$143 billion, or a 7% global market share,” she said.
Japan, Hong Kong, and China are Asia’s top three ETF hubs with AUM totals of approximately $49 billion, $36 billion, and $27 billion, respectively, according to data from Credit Suisse.
Japan and Hong Kong are two of the more developed ETF markets in the region, and Ms. Chen notes that the former’s latest exchange traded exposures (ETEs) generally fall into four main categories: RQFII A-share ETF Japanese depository receipts (JDRs), inverse/leveraged ETPs, enhanced ETPs, and dividend ETPs. The most recent Hong Kong ETFs are commodity ETFs; ETFs with exposure to overseas benchmark indexes; and RQFII ETFs. Ms. Chen says regulatory easing, the development of new indexes, increased investor appetite, and the expansion of the ETF product line-up have driven market growth.
She also pointed out that China’s ETF market had taken off following China Asset Management Co (China AMC) launching the country’s first ETF, the Shanghai 50 ETF, back in February 2005. China’s ETF market consisted of 47 ETFs with aggregate AUM of 160 billion RMB (US$25.3 billion) as of the end of 2012. Looking ahead, Ms. Chen said she expects China’s ETF market to become more diversified.
With regard to cross-border ETF opportunities, Cui Tao, a portfolio manager at Guotai Asset Management, said his firm recently received approval from the China Securities Regulatory Commission (CSRC) to launch the country’s first cross-listed ETF, the Guotai NASDAQ 100 Index ETF, which will be listed on the Shanghai Exchange and the NASDAQ: “We’ve been working with the bourse on preparations for this since 2009,” he revealed.
Mr. Cui added: “The beauty of the cross-listed NASDAQ ETF is that investors can access the benchmark index more easily via the exchange platform compared to the conventional QDII NASDAQ index funds. QDII fund subscription is mainly carried out through the banking network. The cross-listed ETF will be traded on a T+2 basis, and Guotai is planning to introduce a T+0 basis to bolster its liquidity.”
Daniel Wong, executive vice president and head of research and development at Hang Seng Indexes Company Limited, said he expects the underlyings of QDII ETFs to first be concentrated on a number of foreign flagship indexes.
Jessie Zhang, Lyxor Asset Management’s head of business development, Greater China and Southeast Asia, said she had noticed an increasing number of institutional investors in the region accessing emerging markets through ETFs. According to her, liquidity, taxation, and risk exposure are the key factors for them when it comes to making ETF investments.
According to Chen Jianyu, the Shenzhen Stock Exchange’s executive manager of fund management, his bourse is keen to push ahead with ETF product innovation. The spectrum of its listed ETFs runs the gamut from gold-backed to bond-linked. In mid-2012, the country’s first cross-border China AMC Hang Seng Index ETF Fund was listed on the exchange. Presently, the bourse is looking to introduce trading on a T+0 basis in order to bolster market liquidity. The exchange is also holding talks with overseas index providers in an effort to introduce more non-Asia index ETFs to China.
“About 90% of the Mainland market is made up of retail investors. Their understanding of ETFs and QDII funds is not as sophisticated as that of institutional investors, meaning the industry should lend its support to investor education in order to better promote the development of ETF products,” he said.
David Quah, assistant vice president, issuer and client services, global markets with Hong Kong Exchanges and Clearing (HKEx), said cross-border ETFs in Hong Kong have many facets. He pointed out, for instance, that other than the 19 ETFs on Hong Kong equity indices, the others are on cross-border markets and other asset classes. In addition, 30 European UCITS ETFs, one US ETF and one Taiwan ETF are currently cross-listed into Hong Kong, while a number of Hong Kong domiciled ETFs are cross-listed with other regional markets such as Taiwan. Depository receipts on Hong Kong domiciled ETFs are also issued on other regional market.
In 2012, HKEx teamed up with the Shanghai and Shenzhen exchanges to form a joint venture known as the China Exchanges Services Company (CESE). Mr. Quah revealed that the JV has already launched the CES China 120, the first index in the CESE Cross Border Index Series to track companies listed on the three exchanges.
“ETFs are playing an increasingly important role in Hong Kong. They make up around 7-8% of overall stock market turnover in the city. In fact, Hong Kong is now ranked as the second most frequently traded ETF centre in the region after Korea. Also, a compulsory market-making mechanism is in place here to provide liquidity,” said Mr. Quah.
Antoine de Saint Vaulry, director and deputy head of equity derivatives trading Asia at Commerzbank AG, remarked that the ETF market landscape in Asia is relatively fragmented, with the existence of alternative trading platforms such as dark pools and hidden sources of liquidities.
Charles H Wang, CIO of ETF and quantitative investment at Bosera Funds, talked up the ETF market outlook in China, saying the usage of ETFs had become more ubiquitous over the past ten years in the retail-denominated PRC market. “The Mainland market is on the cusp of transformation. The underlying body of Chinese ETFs are diversifying from equities-focussed to bond-, gold- and overseas-linked,” he said.
Mr. Wang said he expects competition amongst RQFII and QFII issuers in Hong Kong to become more vigorous and claimed the distinction between the two pilot schemes is becoming more blurred. He posits that an increasing number of QFII institutions will participate in issuing physical or synthetic A-share ETF products going forward.
Conrad Cheng, CIO at Lippo Investments Management, said it is difficult to convince the larger institutional investors to invest in ETFs. However, he noted, with the rapid growth of the private banking industry in Asia, asset managers concentrating on medium-sized institutional investors may have a better chance of success. “The telling point may be that ETFs can be used to instantly access specific sectors, such as the commodities market,” he said.
Mr. Cheng added: “From the firm’s point of view, we provide advisory services to help medium- and small-sized institutions make more effective use of ETFs in their portfolios. For instance, we recommend our clients increase their weightings in the Japanese electronics and auto sectors through ETFs and in currency hedging when the Japanese yen depreciates.”
Obstacles in the way
Zack Liu, head of quantitative investments at China Southern Fund Management, contended that the growth of China’s ETF market has long been hindered by a number of regulatory hurdles. For example, he said, the absence of trading on a T+0 basis and a market-making mechanism in China has significantly limited market liquidity.
Mr. Wang raised the point that lenders are not motivated to participate in ETF sales because of the lack of commission fees. “ETFs in the US and Europe are mainly traded through brokers under the market-making mechanism,” he said. “However, Chinese brokers are not taking a very active role in this regard. Given that Mainland ETFs can only be traded on the exchanges, the restriction has a marked effect on the bid-ask spread of the ETFs.”
Mr. Cheng added that the scarcity and homogeneity of ETF products are major obstacles impeding the ongoing development of China’s ETF market.
Hong Kong indexes
Ben Yang, senior vice president, research and development at Hang Seng Indexes Company, took to the stage next to explain how the firm had launched various indexes, such as the Hang Seng Risk Adjusted Index Series, HSI Volatility Index, and HS High Dividend Yield Index to help investors to manage risk through index investments.
The index provider launched the HS Low Volatility/High Beta Indexes this year, which selects the bottom 40 stocks according to volatility and top 40 stocks according to beta value in the course of compiling the HS Low Volatility Index and HS High Beta Index respectively. The aim of these indexes is to help investors to construct a portfolio with low volatility and high market sensitivity, Mr. Yang clarified.
ETF guru Deborah Fuhr, who is managing partner at wholly independent research and consultancy firm ETFGI, moderated the final panel of the day. She was interested to find out what the gatherings’ thoughts were on the ETF landscape in Asia in general.
Ko Tseng, head of the ETF/index team at Mirae Asset Global Investments (HK), said approximately 50% of ETF investors in Korea are from the institutional sector. He explained the country’s ETF market is relatively well developed, boasting high trading volumes and the volatility this implies, and said the ETF spectrum tracked via the benchmark Korea KOSPI 200 Index is very comprehensive.
In Taiwan, Liu Tsung-Sheng, president and CEO of Yuanta Securities Investment Trust Company, said about 75% of the territory’s ETF AUM is sourced from institutional investors, despite the fact that the secondary ETF market is dominated by retail investors. He said the availability of relevant index futures is particularly important for institutional users to hedge against their exposures. In addition, he pointed out the Taiwanese government is promoting the adoption of voluntary contributions to pension funds and said he expects ETFs to be introduced into the defined contribution (DC) schemes.
Roger Liu, director of investment, Far East of World Gold Council, pointed out that the SPDR Gold ETF is cross-listed in the US, Japan, Hong Kong and Singapore and said an increasing number of Asian institutional investors are utilising the gold ETF as a hedging tool. By comparison, he said, the proportion between retail and institutional investors is relatively balanced in the US.
Sammy Yip, head of business and product development at Lippo Investments Management, said it is difficult to pinpoint the relative weighting of retail ETF users in Hong Kong as retail investors may access ETFs through the nominee accounts of institutions. He noted that it also depends on whether the ETF is characteristically retail orientated or not, adding that the iShares FTSE A50 China Index ETF has been well received in Hong Kong because retail investors there can make use of the funds to access the previously restricted A-share market.
He went on to say that the emergence of RQFII ETFs had not taken away market share from synthetic A-share ETFs; rather they had enlarged the overall capacity of Hong Kong’s ETF market. “Since many retail investors wager on warrants and options, derivatives issuers need to hedge against their positions utilising synthetic A-share ETFs,” said Mr. Yip.