ETF Industry to Have its Challenges in 2012

LONDON (Reuters) – Europe’s exchange-traded-funds industry could find itself facing its toughest times in 2012 as investors lose confidence in passively managed portfolios that have struggled to cope with markets in the grip of the sovereign debt crisis.

ETFs are investment funds that are traded like a share on stock markets. An ETF can track an index, such as the FTSE 100, a commodity, or a basket of assets. They are popular as a means to get cheap and diversified exposure to assets.

Europe was the world’s fastest-growing ETF region last year, but cautious investors are sounding a nervous retreat from the benchmark-hugging funds — rattled by the volatility in prices. Companies have sharply revised down growth forecasts for this year, and are cautious on the sector’s 2012 prospects.

“The ETF industry will hit a peak either in 2011 or 2012,” Jim Wood-Smith, head of research at wealth management firm Williams de Broë told Reuters.

“There are questions being asked about the merits of an index-tracking fund when the FTSE is down 20-25 percent from its 1999 peak but individual equities have more than doubled in that period.”

By the third quarter of 2010, the global ETF sector managed $1.2 trillion of assets, after growing at an average annual rate of 40 per cent in the past decade, data from the Financial Stability Board shows.

But as the continued threat of a euro zone break-up roils the region’s financial markets, growth rates are dropping.

BlackRock, which owns the world’s largest ETF provider, iShares, last month slashed by half its 2011 forecasts for global growth in ETF assets under management to 10-15 percent from a previous 20-30 percent.

Deutsche Bank, which owns Europe’s second largest ETF provider db x-trackers, on Monday revised dramatically its forecast for global growth in ETF assets under management for 2011 to 5 percent from an earlier projection of 30 percent, with Europe so far seeing a decline of 0.7 percent.

GLIMMERS OF GROWTH

“Where the ETF industry is suffering is its product suite is focussed on index tracking and doesn’t facilitate active stockpicking,” said Wood-Smith.

In years of equal, if not heightened, market tension — such as 2008 — the ETF industry recorded one of its best years. The assets invested in ETFs listed in Europe that year increased by 11 percent, says Blackrock, while major indices declined.

Worry about the safety of synthetic ETFs, which use derivatives to replicate underlying assets, has also weighed.

“There is quite a bit of confusion surrounding where, when and what form regulations might take,” said Ben Johnson, director of European ETF research at Morningstar.

The European Securities and Markets Authority (ESMA) is due to introduce rules to protect ETF investors in early 2012.

ETFs are, however, pulling in more client cash than more conventional mutual funds. European unlisted mutual funds registered outflows of close to 90 billion euros in August and September, data from the European Fund Management (EFAMA) shows.

To see Lipper data on net sales of equity funds in Europe by product type, click here:

There are also particular stand-outs. Over 12 billion euros of overall net new money has gone into German DAX ETFs year-to-date, at the expense of pan-European equity products.

“There has been a massive realignment of how people get European market exposure,” Ted Hood, CEO of Source, an ETF provider jointly owned by BofA Merrill Lynch., Goldman Sachs, J.P. Morgan, Morgan Stanley and Nomura, told Reuters.

“People still want equity exposure but not to the periphery,” Hood said.

BlackRock says German DAX ETFs have been “quite a revolution” topping the list globally of best selling products.

Gold ETFs also benefited from the search for safety. Total gold ETF assets reached $134.6 billion at the end of November, near the record $142.5 billion reached in late August, Barclays Capital estimates.

© Thomson Reuters 2011 All rights reserved

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