The European ETF market could be making a shift towards full replication as synthetic (or swap-based) ETF providers examine their business models, says former iShares CEO Rory Tobin.
"The market is voting for direct replication at this point in time, some people who are currently in the synthetic space will be thinking about their business model," says Tobin.
Tobin's new business, ETF Opportunity Partners - founded with another ex-iShares CEO, Lee Kranefuss - will help the market to make this change.
"Our business is essentially being positioned to be a catalyst for that change to help people with their thought process about how to migrate from synthetic to direct replication and how to access new avenues for growth."
He says that the growth in iShares' assets this year is proof that investors prefer the physical replication method.
The ETF provider (which mostly offers physical ETFs) gained US$15.9bn of net new assets in the year to end of August, according to BlackRock, far outstripping any other provider - the second largest asset gatherer is UBS, with $4.6bn.
"The market - irrespective of the trade off between synthetic and securities lending, which have validity - is definitely voting with its feet and it is endorsing direct replication funds," says Tobin.
"iShares gathering more AUM this year than the next 10 players is a big statement."
Further to this, Credit Suisse announced last week that it is converting four ETFs from synthetic to physically-replicated.
In a notice, the bank says: "Synthetic replication offers an excellent solution when it is difficult or impossible to replicate the benchmark or index physically. However, whenever possible our preference would be for physical replication."
It says it will be monitoring its other products and will "evaluate the ability to replicate additional funds physically".
Asked about the changes, Dan Draper, global head of ETFs at Credit Suisse added that: "This important decision reflects our long-term view of the ETF industry... We are focused on building a long term sustainable business and on client demand; over the past six months we have seen a shift in investor appetite to greater demand for physical replication ETFs."
While this could be seen as a further signal that the market is moving towards physical replication, there has been speculation in the market that the bank previously lost money on some of its synthetic ETFs, according to one ETF head at a swap-based provider.
He disagrees with Tobin's premise that swap-based providers will change their replication method: "I don't think there will be that many changes. The Credit Suisse changes seem to be quite specific to them... I'm not convinced that others will change, only if there was a regulatory push."
The ETF head notes that iShares' growth this year has largely been in its Dax and S&P 500 ETFs and that a number of swap-based providers have gathered assets.
In order for the European ETF market to grow, Tobin says that the physical versus synthetic debate needs to come to an end. With Esma currently reviewing practises in the Ucits market, many in the market think that may finally happen.
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