Invisage sponsored the Unbundling Uncovered Online last week. It was a virtual conference on investment research organised on 24 June by Substantive Research. The event
The easiest way to create your own indices for ETFs
ETFs have been at the centre of investor money flows for decades. Until the early 2000s, they were restricted to pure passive strategies tracking well known market indices like S&P 500 in the US (no wonder S&P 500 ETFs are the biggest ETFs in the world!)
Since the beginning of the 21st century, they adapted to the ‘smarter’ revolution, that’s right the smart-beta investing. While smart beta strategies continue to exist in various product formats, they have become the new poster girl of ETFs.
This is due to the appeal of smart beta for long term investors and the abundance of benefits in the ETF product format like the lower costs, higher liquidity and intra day trading.
Pure passive ETFs have their expense ratiostypically anywhere from 5 to 50 basis points, which is the total annual cost passed by the fund to the investors based on the AUM (mind you, there are a few free ETFs as well! recently launched by Fidelity). Smart beta ETFs charge anywhere from 25 up to 125 basis points in some cases.
One major cost for the ETFs is the cost of the underlying index which is usually tied to the AUM of the fund and eats into the bottom line. Third party providers like S&P typically charge 3 basis points for pure market indices like S&P 500 but it is north of 10 basis points incase of smart beta indices.
Can ETFs not create their own indices to launch smart beta ETFs?
In spite of the significant costs of third party indices, more than 90% of ETF AUM is tracking third party indices. Reasons for it could be the investor confidence in well known third party indices, difficulty and costs associated with managing the index in-house (self-indexing) and the regulatory requirements of EU Benchmarks Regulation 2018.
Additional infrastructure in terms of systems and people required to ensure accurate and error-free self-indexing can prove to be costly. Over time, these costs can compound and result in their own complications, especially for smaller ETF providers. Self-indexing also means the instant loss of flexibility that comes with picking an off-the-shelf index.
However, having an end to end platform to seamlessly manage indices while complying with the regulatory requirements will significantly lower the costs of indices and improve the P&L.
Other benefits of self-indexing are the control over the portfolio and the ability to create factor-based approach towards investment strategies. Giving the flexibilty to investors to target specific investment drivers (single or multi-factor) in the market instead of the market capitalisation may also open doors to big ticket investments.
In case of self-indexing, it is often seen that the investors want the index to be managed by a third-party for added transparency and reliability, even without any regulatory requirements.
Self-Indexing with Parity One: Independent, easy and at fraction of the cost
Parity One is built to enable ETFs build and manage indices in-house in a cost effective manner while providing the necessary regulatory compliance and transparency of third party independent administration.
- Parity One gives you the means to back-test your factor strategies with all index management activities simulated. With one click you can productionise the indices.
- Through its innovative factor-based approach to index construction, creating and managing single or multi factor indices on Parity One is ridiculously simple.
- Parity One is cost effective because it offers end to end functionality to manage indices in-house. This enables it to be cutting edge at the same time by offering advanced risk analysis and optimisation techniques.
- Using the ‘Global Access’ feature of Parity One, index is shared with investors and market makers in real time
- All indices managed on Parity One can use the benchmark administration solutions provided by VTFinTech
Parity One is a game changer. Talk to us today to try it.
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