Success of ETFs among private investors hangs on regulation

GIVEN that exchange-traded products (ETP) have been available in the UK for just over a decade, the speed at which they have managed to penetrate the private investor market can only be described as glacial. Around 85 per cent of the European ETP market is still institutional.

Yet there are signs that private investors are becoming more interested in ETPs. Barclays Stockbrokers reported earlier this week that its clients had significantly increased their investment in exchange-traded funds (ETF).

It revealed that the combined value of ETFs held in client accounts had risen by more than 330 per cent between September 2008 and September 2010. The same research also showed that the average client deal size has increased by 88 per cent over the period while the volume of assets invested on a monthly basis has increased by 60 per cent.

Paul Inkster, head of product at Barclays Stockbrokers, says: “The pick up in interest that we have seen has been fairly constant. As the view of self-directed investors has changed and it has become easier to achieve the geographical diversification they need, these products are perfectly positioned.”

Inkster adds that a key feature is the ability to gain exposure to areas such as the Far East, Latin America or various asset classes. As evidence, among the top 10 ETF purchases by Barclays Stockbrokers clients in September 2010 were the iShares MSCI Emerging Markets, the iShares FTSE/Xinhua China 25 and the iShares MSCI Brazil.

It’s not just self-directed clients who are becoming more interested. Inkster says that there is certainly appetite among Barclays Wealth clients for ETFs, a sentiment with which Dennis Geelan, head of investment solutions for Credit Suisse’s UK private banking business, agrees: “From a trend perspective we have seen a huge pick up [in interest].”

This trend should only accelerate over the coming few years thanks to the sweeping regulatory changes to the UK retail investment landscape that are in the pipeline. The Retail Distribution Review (RDR), which is scheduled to come into force on 31 December 2012, should remove the commission-bias and encourage advisors towards ETPs. It is also one of the reasons why Credit Suisse sees the UK as one of its top target markets globally for ETFs.

Credit Suisse’s global head of ETFs Dan Draper says that the distribution channels in the UK are still fragmented but notes that fund platforms’ improving capabilities have helped in this regard. This is in contrast to countries such as France and Germany where products tend to be distributed through bank networks.

He adds that IFA awareness of ETFs in the UK is growing, but still has some way to go in comparison to the US Registered Investment Advisor (RIA) market. “The whole industry in the US has moved and ETFs are increasingly the product of choice.”

In the US, ETFs have lowered the barriers to entry, Draper says, observing that these products have had a democratic effect on the investment world. Previously capacity and cost constraints meant that wealth managers and RIAs struggled to do what pension funds did. ETFs allow that scalability, says Draper.

The combination of the efforts of providers and distributors to educate their clients as well as regulatory changes should level the playing field in favour of ETPs. It has taken a decade for the private investor share of the market to reach around 15 per cent. The conditions are now in place for the pace to pick up.