A survey of exchange-traded fund (ETF) buyers and professionals in the UK has revealed that some of the broad misconceptions surrounding the products actually run counter to investor behaviour, attitudes, and preferences.
With more than 400 participants from across Europe, the survey aimed to examine their use and to gauge views on the multi-billion dollar European ETF market and how it is likely to evolve.
Below, FE Trustnet considers some of the common myths that have been dispelled by the survey’s findings.
Only costs matter
One widely-held myth is that costs are the only driver of the industry’s growth, particularly when set against the backdrop of higher fees in the actively managed sector.
However, it is not the only factor driving investor behaviour.
“When it comes to ETF selection, no single criteria is dominant,” the asset manager noted. “Expense ratio is the top priority for investors, but liquidity and tracking error are key considerations that follow closely behind.”
Source: Vanguard
Although 18 per cent of respondents across Europe said expense ratio was their top priority, liquidity of underlying holdings (17 per cent) and tracking error (15 per cent) were also significant considerations.
For ETF investors in the UK, expense ratios did not feature in their top three most important features when selecting a product, highlighting bid-ask spread consideration (21 per cent), liquidity of the underlying holdings (20 per cent), and benchmark (13 per cent).
However, cost is an important issue when it comes to switching provider.
The survey found that for 90 per cent of UK respondents cost is the number one reason for switching provider.
“It is not all about cost, though,” the asset manager noted. “Buyers also value liquidity, the strength of relationship with the ETF manager, and the overall provider brand.
“These are not nice-to-have factors; they play a key role in driving provider selection decisions. Some feel that if other factors such as cost are closely matched, the impact of brand increases and, between two very similar products, it can be a tiebreaker.”
ETFs are just for tactical use
The second myth dispelled by the survey findings is that ETFs are only used for short-term, tactical allocations within portfolios.
This myth has been fuelled by the ease with which investors can enter and exit positions, said Vanguard. Yet, the research shows that European ETF buyers are more likely to hold the funds for longer.
Source: Vanguard
For 85 per cent of UK respondents, ETFs represent a core ‘buy and hold’ llocation within portfolios, with 63 per cent using them to make tactical adjustments.
This can also be seen in the average holding periods for ETFs in the UK, where most buyers hold the products for between one and three years. Just 5 per cent of respondents hold them for less than a month.
ETFs are also used for some other less common reasons such as cash equitisation, (investing a cash position in an ETF to minimise the effect of large cash holdings on overall portfolio performance), liquidity management (to improve overall portfolio liquidity), risk management (to balance out holdings of individual companies which may be higher risk), and rebalancing (the buying or selling assets in a portfolio to maintain a desired asset allocation).
“The market is more sophisticated and nuanced than many investors realise and although tactical use of ETFs does exist, it is far from the most popular reason for buying ETFs,” noted Vanguard.
Investors avoid global portfolios
The final myth challenged by the survey’s findings is that the majority of ETF investors are likely to take a local or regional approach rather than invest in global strategies.
The survey findings suggest that European investors are just as comfortable buying global as they are regional, a mindset which, Vanguard said, demonstrates a widespread understanding of the need for diversification.
“A broad geographical spread provides further evidence of ETF buyers placing a premium on diversification in order to improve their chances of long-term investment success,” the asset manager noted. “It also reinforces the suitability of ETFs as a quick and efficient way to get market exposures.”
While just 51 per cent of UK investors would take use the products for global exposure, they are far more likely to use them for gaining access to regional and emerging markets and for single countries, such as the US where 78 per cent use such a strategy.
Source: Vanguard
In terms of market capitalisation, most investors use ETFs to get exposure to large-cap equities (30.6 per cent) but were not popular ways to access small- and mid-cap stocks. However, the products are popular for gaining multi-cap exposure with 17 per cent making use of them for this.
Yet, 34.8 per cent said they had no preference about which part of the market they preferred the strategies for.
Precision ETFs – those following focusing on a particular factor or factors – have also proved popular.
Among UK investors, there is a preference for a blend of single- and multi-factor ETFs, with 61 per cent of respondents using them this way. But they also use single-factor ETFs on their own more often than their European counterparts. Half of the UK respondents are also likely to use them to gain exposure to a specific sector.
“ETF buyers are using the products in far more varied ways than many other professional investors realise,” Vanguard concluded.