James Baxter of Tideway Investment Partners talks to Joanne Young about using ETFs to track developed markets and the need for more currency hedged products
How does Tideway Investment Partners use ETFs in its portfolios?
We are a discretionary fund manager (DFM) and operate by way of managed accounts. Tideway acts on accounts hosted by other brokers and issues trading instructions around our model portfolios.
We manage a range of model portfolios and clients invest through a managed account with a broker, giving us power of attorney to trade that account. We buy investments in line with our models and then keep them up-to-date over time in accordance with changes to our models.
We currently have about 35% of our portfolios invested in ETFs, which is the largest proportion given to any type of investment. In terms of investment structures, our allocation also includes 33% to individual stocks, 27% through investment trusts and 5 % in cash.
What type of ETFs do you tend to use?
Generally speaking, we try and stick to the BlackRock range. We have got a number of portfolios, but to take an example, in our Balanced Growth Portfolio we are currently using an ETF in gold, an emerging market ETF, an Asia ex-Japan ETF and the S&P 500 Monthly Hedged GBP ETF, which is a new iShares product. All of those are traditionally replicated.
Would you use synthetic ETFs?
Yes we would; and we have. We used a db x-trackers short FTSE 100 to put some protection into the portfolios earlier in the year.
Do you use ETFs to gain access to any particular asset classes or regions?
We are probably more interested in the developed market ETFs than in emerging markets and Asia, where we think there should be more opportunities for active managers. That said, I always find that when the markets are rallying quite strongly – as they have been doing of late – a lot of the active managers find it hard to keep pace with those indices. My experience is that in strongly rising markets you are almost better off being in ETFs, and then when the markets get tougher you are better off with active managers in those more diverse markets.
Certainly for the US market in particular, there is little evidence to suggest that seeking active management is a value-added game.
Do you use physically-backed ETFs?
Our gold ETF is physically-backed. I think we prefer the physically-backed ETFs where we can buy them. We have not been invested in silver this year, but probably should have been.
Our default is to buy the ETF in any sector we want exposure to and from there to hunt around and see if we can find an active manager who looks like he is doing something really different or adding value. If we want sector exposure, we are more than happy to just go in and buy an ETF in the first instance.
What is the main thing you look at when you are choosing an ETF?
The quality of the providing company, which means we are reluctant to deal with some of the more specialist issuers. Other than that, we look at the liquidity of the ETF in terms of its tradability. For us it is much easier to use UK-listed ETFs, because we are dealing predominately with UK retail customers through UK stock-broking platforms. We use the US-listed range much more extensively for our offshore clients.
What are the advantages of using ETFs?
The main one is cost of implementation. Our flagship Balanced Managed Portfolio has a third-party total expense ratio (TER) average of 0.6%. This sort of third-party implementation cost would compare with, for example, a portfolio created out of traditional retail OEICs, where you would be looking at costs of 1.75%. Ultimately you are paying around a third of the price. That is one of the big attractions.
Additionally there is certainty of performance. With an ETF you know if you pick a sector well you will get good returns. When you use an active manager there is always the risk that you get the right sector, but they get the wrong stocks and underperform the index.
Then there is this issue of whether you host money on unit trust platforms or on stock broking platforms. The whole London Stock Exchange world is totally electronic, totally tradable on a minute by minute basis while markets are open and very low cost – we are trading stocks at £10 a trade. A unit trust platform is typically looking for 25-30 basis points of annual cost. You have got their cost, plus the Ucits cost before you even start making any investment choices and then you can only trade once a day, with forward pricing, on an unknown price.
What effect will the introduction of the Retail Distribution Review have?
I think the opportunities for ETFs post-RDR are that advisers stop looking for their commission and start looking at lowering the costs for their customers. Once they do that they are going to be driven inexorably towards ETFs and listed trade platforms, and away from traditional fund manager platforms.
What developments would you like to see in the industry?
There are two areas really. One is the currency hedged aspect, which BlackRock has obviously taken on board. Currently we do not have a particularly strong view of the dollar versus the pound, so we would prefer to just buy exposure to the S&P 500 and not have the currency risk. So, if we were to buy Asia we might want the currency tailwind; if we are buying US stocks we would rather opt out. To be able to select specific markets without the currency risks would be fantastic.
If you look at the US marketplace and the ability to track parcels of shares and sectors, I would like to see a UK range of ETFs working on the same sort of basis. If we could match those US ETFs on a hedged basis into sterling that would be great, as we would not need to go shopping abroad. In the US you can buy into gold miners, or miners and metals, or financials, or high yields or value stocks – there is an ETF for all of those sectors. There are not many sector-specific funds in the UK and I would like to see more. Eventually, you would be going even further away from having to have active fund managers.
James Baxter is the managing partner at Tideway Investment Partners and has 24 years experience as a financial adviser and investment manager. James started as an IFA with Saunderson House before founding wealth managers JBCM, which he grew to £150m in funds under management to the point of sale in 2008.
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