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Alex Vynokur: ETFs deliver what’s written on the can

Alex Vynokur is Founder and Chief Executive of BetaShares, an Australian provider of Exchange Traded Funds (ETFs) with $14 billion under management.

 

GH: The ETF industry in Australia has not missed a beat during the pandemic, reaching all-time highs on monthly flows with balances topping $73 billion and heading for $100 billion in 2021.

AV: Yes, it's been a good year for ETFs and our business. When we were in the middle of the March volatility with COVID, it was hard to know how investors would react. But the industry overall has been really solid, and a lot of the naysayers who were casting doubt on the robustness of the ETF vehicle have been proven wrong. They were saying all is good in a bull market but just wait until volatility and market falls kick in and then we will really see what ETFs are all about. So it was great for the industry overall and BetaShares to go through such a strong experience, always trading and completely in line with our expectations. The products have delivered what they say on the can.

GH: When you started BetaShares 10 years ago, did you expect to be at $14 billion by now?

AV: We didn’t have a specific funds metric in the initial business plan, rather we focused on building a business with a sustainable competitive advantage. One good thing about COVID was the chance to reflect on the overall business and ask where we will be in another 10 years, in 2030. When I think about the industry in the next decade, it will be operating at a completely different scale. It will become more ‘core’ in portfolios, and increasingly ETFs are the first investment many people make.

GH: In the strong growth in the last few years, has there been a particular type of ETF which has surprised you, where four or five years ago you weren't seeing the growth.

AV: Ethical investing must be called out as the x-factor for the industry and that wasn’t previously on the radar. In fact, when we started the business, I didn't even know what ethical investing was, let alone that it would represent such an important part of our growth. It’s only been in the last three years that the myths about ethical investing have been dispelled. The conventional wisdom was that few people would be willing to sacrifice performance for the pleasure of investing ethically. But now the track record speaks for itself in delivering performance and it's been an eye opener.

GH: How much do you have in ethical funds?

AV: Closing in on $2 billion, and just over three years ago it was zero. We have developed true-to-label investments and BetaShares accounts for the majority of ethical investment assets in the ETF industry in Australia. Increasingly, ETFs are capturing the ethical flows, which is unique, because in all other categories, ETFs have been playing catch up with active management and unlisted index funds.

GH: And the growth in fixed interest and global ETFs has also kicked in.

AV: It has as well. Fixed interest and international are great examples of the democratisation and access that ETFs deliver. Traditionally, diversification into fixed interest was the purview of large institutions, with high denominations, opaque pricing and ‘over-the-counter’ trading. ETFs have taken the bond game to another level, enabling all investors to connect better with the building blocks of fixed income. In the past, bond components such as governments, supranationals, credit, corporate bonds, asset backed were, for the average investor, always a mystery. ETFs have helped to demystify fixed interest, lower the cost and improve access.

GH: I remember a Chris Joye webinar around April, talking about hybrids in the fund he managers, HBRD, with spreads at historically high levels. That's turned out to be a great investment in the last six months.

AV: There’s still work to do educating on fixed interest, but if you look at COVID, investors benefited from the lower volatility of bonds in their portfolios, and ETFs have delivered the outcomes they sought.

GH: Retail investors have the same access to shares in BHP or Woolworths as professional investors, but not to the wholesale bond market where most bonds are traded.

AV: Yes, and I think international shares are in the same category. Some brokerage businesses offer access to overseas shares, but global ETFs trading on the ASX give institutional pricing in this time zone without FX fees or wide spreads. So on the ASX we have a Vanguard S&P500 or a portfolio of global cybersecurity companies through HACK or NASDAQ100 through NDQ. Full transparency and costs. All investment vehicles need to deliver value and ETFs have proved themselves.

GH: On ETF product proliferation, we now have more ETFs in the US than listed companies, giving the ability to back almost any idea. Australia now has, what, 215 and a quarter of them are yours. Is this a healthy development?

AV: Well, first of all, that’s similar to saying that there are more words in the English language than letters. You can have a lot more words than letters, and you have more ETFs than individual securities. If we focus on Australia, it is a market that is far from homogenous in its participants. We have people investing for the first time, especially with the property market out of reach of the majority of young Australians today. Then at the other end of the spectrum, we have investors with significant balances, maybe in retirement, and they don't need as much growth and want strategies focused on preservation of capital. And then, the world of asset allocators who are looking for indexed building blocks for a diversified portfolio.

GH: And their needs change over time.

AV: Yes. If you’d asked me 10 years ago whether robotics and artificial intelligence would present an investment opportunity as a long-term secular trend supported by great fundamentals, I would probably not have even understood the question. The leaps that industry has made have created drivers of innovation and value creation. These are the reasons we see innovation on the product side. It will only stop if our needs as investors remain constant, and that never happens. Consider the interest rate environment that we live in today. It creates unique challenges and problems that need to be solved.

GH: I agree that the range of investment opportunities is a worthwhile development but it also means some funds will be left behind and be forced to close.

AV: Yes, but that’s absolutely fair. With an industry that's maturing, we learn from hindsight, and closing products shows an ability to make a mature assessment of what has been done well and not so well.

GH: Can you identify characteristics of ETFs which have worked particularly well, and others that have not done as well as you hoped?

AV: The most important feature is the true-to-label nature of the product that delivers an investment outcome aligned with expectations. We are experiencing a significant secular trend towards lower cost, more transparency, more liquid investments, which favours index strategies, whether those indexes are market capitalisation, thematic, smart beta or strategic beta. These deliver value to investors, whether it's the core of the portfolio, an allocation to a thematic as a satellite or tilt, whether it's a country-specific or factor based. ETFs challenge the conventional wisdom of what an index really means.

GH: And active ETFs.

AV: There is plenty of scope for both index and active to coexist, and ETFs showed the benefits of intra day liquidity in active ETFs during the extremes of COVID. The Australia market would open, say, 6% down and close 3% up. A range of 9% or 10% in one day at its extremes. Investors in an active unlisted fund had no ability to time their entry when the market was down. An order through an application form or website for the unlisted fund would be filled at the end of day price regardless of when the investment was initiated.

GH: And worth noting that the ASX’s solution to access managed funds via their platform, mFunds, is an execution service not a trading service. Investors put in an order that is filled after the close of the market, although the trade is done on the ASX.

AV: Yes, while on-market, investors could be filled immediately at a price that’s aligned with the investors' expectations. It gives more certainty on the price, whether for a buyer or seller. It's a more-evolved investment structure whether you believe in passive or active investing.

GH: BetaShares has had a lot of success with the cash product, AAA, but what’s the outlook now the cash rate has been reduced to 0.1%?

AV: AAA has grown significantly as rates have come down, and one reason is that most investment platforms now pay zero on cash deposits. People always need to have some of their balances in cash, and the relative return of AAA is probably more relevant than ever. Rates go up and down but the fund has been able to deliver rates that are more favorable than available through most cash alternatives.

GH: As recently as a couple of years ago, Listed Investment Companies and ETFs were both doing well at about $40 billion on issue. ETFs have doubled in three years and now hold $73 billion, and you are predicting $100 billion next year. What are the key differences where one has surged and the other has stagnated?

AV: The engines that power the growth of ETFs have been consistent since the beginning but the ETF industry never benefited from paying a remuneration or distribution incentive. So in the early days, ETFs were poorly adopted. Before FOFA, it was not a level playing field. The enforcement of FOFA rules through the Royal Commission has affected those structures like LICs which relied on paying for distribution. With a level playing field, ETFs prosper.

GH: If you were talking to an investor who already has the core of a portfolio covered with broad-based Australian equities, global equities, property and fixed interest, but wants to put 5 to 10% of their portfolio into something that's a little bit sexier and maybe a little bit riskier ... If you had to choose a couple of funds that you feel best about, what would they be?

AV: Two good candidates. One is Asia tech, ASIA. It’s a great portfolio of high-growth companies with true bottom-up growth and innovation, such as Tencent, Alibaba and JD.com. It holds the 50 largest stocks in technology in Asia. The other one is cyber security, HACK. I think as we go cashless globally, the focus on digital wallets will demand protection of personal data, corporate data and government information. It’s only just beginning and is the most exciting thematic in my view.

GH: Last question. The business has done well but what worries you the most? As Bill Gates once said, two smart guys in a garage can kill Microsoft.

AV: Yes, that's right, exactly. I ask myself what could derail the growth of ETFs, especially since at the moment, we are the disruptors of the asset management industry. ETFs make the lives of mediocre active managers miserable, but what can disrupt us? It would be a mistake to believe for a second that the ETF industry itself is immune from disruption and challenge.

That’s the one thing that I am paranoid about. Not because there's anything on the horizon today but success can breed complacency. We’ve been blessed by our timing but we must retain the hunger, the innovative edge. A dose of paranoia about the needs of our clients and evolving with the times will prevent us becoming a dinosaur.

 

Graham Hand is Managing Editor of Firstlinks. Alex Vynokur is Chief Executive Officer of BetaShares Capital, a sponsor of Firstlinks. This material has been prepared as general information only, without reference to your objectives, financial situation or needs.

For more articles and papers from BetaShares, please click here.

 

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