How helpful will the inclusion of ETFs in fund sectors be for investors?

The IA has launched a consultation on the potential inclusion of ETFs in its 37 fund sectors.

Funds and Investment Trusts November 30, 2018 by Tom Bailey

As ETFs continue to play an ever-larger role in the portfolio of investors, the Investment Association (IA) has launched a consultation on their potential inclusion in fund sectors.

The IA’s 37 different fund sectors currently include both actively managed open- ended funds and index funds. Under the new proposal, 200 ETFs can apply for inclusion in the fund sectors until February 2019.

Only ETFs that are either UK-domiciled or are EU Ucits with HMRC reporting fund status can apply for inclusion.

The move, it is hoped, will provide more transparency for investors and allow them to better compare the performance of different investment vehicles.

Hector McNeil, co-CEO of HANetf, has praised the move, noting: “Improving transparency in this way can surely only be a good thing for end investors, and we hope the scope of ETFs included can also be widened over time.”

Darius McDermott, managing director of Chelsea Financial Services, makes a similar point: “My view is that if it is a standard ETF, for example one that invests in UK equities, then it would be fine to add to the IA UK All Companies sector.

“ETFs are gaining popularity and are being more widely used, so it would seem a sensible and useful outcome.”

At the same time says McNeil, the move will be useful as the so-called “next generation” of ETFs, such as thematic and smart beta products, grow in popularity. He adds: “These new ETFs will be much more focused on after-fee performance, rather than just being judged on how low the fees are, so to have them alongside active funds makes a lot of sense.”

However, the inclusion of ETFs also present potential issues. McDermott argues that like-for-like comparisons between the funds included in an IA sector and ETFs are not so straightforward, potentially creating misleading comparisons for investors.

For instance he notes that when it comes to ETFs that make use of leverage, “this would not be a like-for-like comparison.”

At the same time McDermott is concerned that the IA might not be able to appropriately classify certain ETFs. While more basic index-tracker ETFs will be easy to place in certain sectors, many more niche ETFs will have no obvious sector classification.

“What this may result in is a number of less-standard ETFs going into the unclassified or specialist sectors, which are already overpopulated," McDermott warns.

“This wouldn't actually help advisers or investors make sensible comparisons and choices, so the IA may need to consider more specialist ETFs in more detail.”

Commenting on the consultation, Galina Dimitrova, director of investment and capital markets at the IA, says: “We are continually monitoring the fund market to ensure that the IA sectors reflect the wide range of products the asset management industry has to offer savers. The primary purpose of the IA sectors is to serve the needs of consumers and their advisers and the addition of ETFs must be done in their best interests."

The IA is also consulting on whether to reclassify sustainable funds.   

Neville White, head of SRI policy and research at EdenTree Investment Management, welcomes this consultation. He says: “We welcome anything that brings clarity and greater transparency to an important market, and where traditionally the UK has led."

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