Last Updated: 28 November 2022
Would more transparency in collateral positions and counterparty risk jumpstart the retail ETF market in Europe?
So says Morningstar’s new associate director of European ETF Research. In an interview in this weekend’s Financial Times, Bradley Kay—newly appointed to Europe from Morningstar’s U.S. ETF operation—says that the retail ETF market won’t grow in Europe until a number of conditions are met. And one of those conditions is transparency:
“We need full portfolios published frequently and with little delay, especially when dealing with indices there is no reason why this can’t be done,” he argues. “For synthetic replication, ETF providers will have to win not just on cost and on tracking. They also have to match the openness of more traditional funds. They need to make collateral rules easier to find.”
I certainly hope this happens. I’m a huge fan of transparency: even in the U.S., I’ve railed against the lack of true transparency in the ETF market. I believe in all the clichés: sunshine being the best disinfectant, know what you own, etc.
Unfortunately, there’s worrying little sign that investors (and retail investors in particular) care at a deep level about true, same-day portfolio transparency. Just look at Vanguard, which only discloses its ETF portfolios on a quarterly basis with a 30-day lag but is nevertheless the fastest-growing ETF provider by far this year. Or consider the growth of ProShares, which uses swaps counterparties without regularly disclosing who those counterparties are or how often the swaps are balanced.
In the case of Vanguard, I would argue that it sneaks by on its squeaky-clean reputation and its long history of tracking indexes very well. But the case of ProShares is more concerning. There, I think it’s simply that investors don’t take the time to care. They have implicit faith in the system, and until something blows up, they don’t give it a second thought. They should, but they don’t.
In Europe, where the UCITS standard provides decent rules on counterparty risk, I think that faith is more pervasive and also better-founded. From my discussions with European investors, the issue of counterparty risk is really only found on the margins. Investors don’t seem to care that much about counterparty risk, physical vs. synthetic replication, or related issues.
The hurdle to retail joining the ETF party in Europe lies, in my mind, with the structure of the European financial advisor market. Until you see the growth of fee-only financial advisors, the ETF market will continue to be driven by institutions and hedge funds.