Exchange-traded funds:
Head
Clarity amid the clutter
Vanguard Commentary
Research
September
March 2014
2016
Prepared by Vanguard’s Investment Strategy Group
■■
Over the past decade, exchange-traded funds (ETFs) have become popular among
investors for their use in building investment portfolios. Although sometimes portrayed
as unique instruments, ETFs are overwhelmingly similar to mutual funds, from both a
regulatory and a structural standpoint.
■■
Investors have also used ETFs similarly to mutual funds, namely to create low-cost,
broadly diversified investment portfolios, especially when implementing indexbased strategies.
■■
ETFs provide important benefits stemming from the method by which investors transact
in fund shares. The secondary market trading of ETFs serves as an additional source
of intraday liquidity for market participants while intraday market prices reflect valuable
information about market conditions.
This document is directed at professional investors only as defined under the MiFID Directive.
Not for Public Distribution. The value of investments, and the income from them, may fall or
rise and investors may get back less than they invested.
Exchange-traded funds (ETFs) have become a soughtafter option for European investors, with European-listed
ETF assets totalling €428 billion as at 30 September
2015. Although this amount was much less than the €5.9
trillion in total assets held by mutual funds (MFs) at that
date, ETF assets grew at an annualised rate of 86.8% in
the four years ending 30 September 2015, versus 33.4%
for MFs over the same period.1
ETFs’ remarkable growth has been driven largely by two
trends. The first is the financial industry’s growing
awareness of low-cost investing.2 Secondly,
intermediaries, who manage substantial assets held by
investors, have been conducting a greater proportion of
their practices on a fee basis, as opposed to a
commission basis. This has led to an increase in the use
of passive funds by advisers. As most ETFs take a
passive investing approach in Europe, this trend has
helped to support ETF adoption.
Most ETFs share many similar characteristics with MFs:
• They offer investors access to a particular market or
investment strategy;
• They are pooled investment vehicles whose investors
own a pro-rata share of fund assets and receive
valuable benefits in return (e.g., diversification,
economies of scale, professional money management
and convenience);
• They are primarily regulated by the same laws;
• They issue new shares and redeem existing shares to
meet investor demand.
Despite many similarities with MFs, however, there are
differences. Most notably, when MF investors buy and
sell shares, they transact directly with the fund and
receive the end of day net asset value (NAV) price,
whereas ETF investors typically transact with each other
through an exchange and receive an intraday market
price, usually the moment the order is placed.
This research commentary first highlights the similar
regulatory regime applicable to both ETFs and MFs. We
then discuss how investors use ETFs in the same ways
as MFs when constructing portfolios. Finally, we describe
some of the benefits provided by ETFs that result from
their exchange-traded nature.
ETFs and mutual funds: A shared regulatory
environment
The vast majority of Europe-domiciled ETFs (91% of
assets, according to Morningstar as at 30 September
2015) are organised and regulated as registered
investment companies under the Undertakings for
Collective Investments in Transferable Securities
(UCITS) directive3, the same regulatory regime that
governs the UCITS mutual funds domiciled within the
European Union.4
The UCITS framework lists a number of eligible assets
that a UCITS fund may invest in. Eligible assets include
transferable securities, money market instruments,
financial derivative investments, open-ended collective
investment schemes, deposits with credit institutions
and financial indices. By contrast, however, a UCITS fund
cannot invest (directly or indirectly through derivatives)
in commodities (including precious metals or certificates
representing them), property/real estate, private equity,
hedge funds and non-financial indices (ineligible assets).
A UCITS fund may not invest more than 10% of assets
in transferable securities and money market instruments
which do not meet the UCITS eligibility requirements (i.e.
they are not listed or dealt in on a regulated market).
UCITS funds can be managed with an active strategy
or an index-tracking strategy. With respect to active
management, the investment manager has discretion over
the composition of its portfolio subject to the asset class’s
stated objectives. Index-tracking UCITS funds hold eligible
assets in order to attempt to track the performance of a
sufficiently diversified financial index5 either directly, by
purchasing the constituents of the benchmark index, or
indirectly, predominantly by using derivatives.6
In order to determine sufficient diversification, a “look
through” principle is applied. This means that the
investment manager must aggregate direct and indirect
holdings in each security held so that the total of the
direct and indirect exposure (i.e. gained through a financial
derivative instrument over the relevant security) must not
exceed the diversification requirements known as the
“5/10/40 Rule“. The 5/10/40 Rule provides that a UCITS
may invest a maximum of 10% of its Net Asset Value
(NAV) in a transferable security or money market
instrument issued by any one issuer. Where the
1 Source for all data in this paragraph is Morningstar, Inc., as at 30 September 2015.
2 Edhec Risk Institute European Survey 2015, February 2016.
3 European Council Directive of 13 July 2009 (2009/65/EC) on the coordination of laws, regulations and administrative provisions relating to undertakings for collective investment in
transferable securities and any amendment thereto.
4 Further information on UCITS is available at http://www.centralbank.ie/regulation/industry-sectors/funds/ucits/Pages/default.aspx
5 The UCITS framework stipulates that every benchmark index used by a UCITS must be a “financial index”. The criteria for financial indices include that they be sufficiently diversified,
represent an adequate benchmark for the market to which they refer, have a rebalancing frequency which enables investors to replicate the financial index, be published in an appropriate
manner and be independently managed from the management of the ETF.
6 ETFs that gain exposure predominantly using derivatives are sometimes referred to as “synthetic ETFs”. See Dickson et al (2013) for a discussion of synthetic ETFs.
2
For Professional Investors as defined under the MiFID Directive only
investment in any one issuer exceeds 5% of NAV, the
maximum aggregate holdings over 5% for all issuers is
40% of NAV.7 In other words, where the investment in the
same body exceeds 5% of NAV, the maximum allowable
holding of these greater-than-5% positions in total is 40%
of NAV.
UCITS funds’ assets are held by a custodian (typically a
bank) and are segregated from both the asset manager’s
and the custodian’s assets. If the asset management firm
or custodian becomes insolvent, the assets of the UCITS
are not available to the creditors of the asset manager
or custodian.
In addition, there are liquidity rules that govern UCITS
funds and state that a UCITS fund must repurchase or
redeem shares at the request of any shareholder. These
rules also apply to ETFs in certain circumstances.8 UCITS
funds can operate daily, weekly or fortnightly dealing
and no lock-in period may be applied. Notwithstanding
this, a UCITS fund may gate redemption requests at a
percentage of Net Asset Value in certain circumstances.
There is also a facility to suspend trading (including
redemptions) in certain specified circumstances.
For UCITS funds that track an index, the following
disclosures are required:
• There is sufficient publicly available information in
relation to the index;
• There is clear information on how the ETF will track or
replicate its index (i.e. synthetically or physically);
• There is disclosure on the anticipated level of tracking
error in normal market conditions;
• There is information on factors which could affect
tracking ability; and
• There is disclosure on leverage where it is generated
either within the fund or within the index.
• A manager that implements an active management
strategy must clearly disclose that the ETF pursues
such a strategy.
All UCITS funds are subject to the above-mentioned
regulation, but UCITS ETFs have an additional requirement
in order to be called a “UCITS ETF”. The ESMA Guidelines
on ETFs and Other UCITS Issues9 (the “Guidelines”)
introduced the requirement to include the identifier
“UCITS ETF” in the (i) name, (ii) fund rules or instrument
of incorporation, (iii) prospectus, (iv) KIID(s) (Key Investor
Information Documents) and (v) marketing communications
of a UCITS ETF. A UCITS ETF is defined in the Guidelines
as: “a UCITS at least one unit or share class of which is
traded throughout the day on at least one regulated market
or Multilateral Trading Facility with at least one market
maker which takes action to ensure that the stock exchange
value of its units or shares does not significantly vary from
its net asset value and where applicable its Indicative Net
Asset Value”. UCITS ETFs and mutual funds are subject to
the listing requirements of the various exchanges on which
they are listed or traded.
Using ETFs to implement investment strategy
The fundamental purpose of a fund, whether an ETF or
a conventional MF, is to provide diversified access to a
particular investment strategy. Both structures conveniently
enable investors to construct their portfolios in accordance
with their asset allocation. Figure 1 shows how investor
allocations using ETFs are similar to those using MFs.
Figure 1. How ETF and mutual fund investors allocate assets
b. Allocation of MF assets
a. Allocation of ETF assets
31% Europe equity
20% Europe equity
28% Rest of world equity
22% Rest of world equity
16% Europe fixed income
18% Europe fixed income
3%
Rest of world fixed income
13% Rest of world fixed income
4%
Emerging markets
6%
18% Other
Emerging markets
21% Other
Note: Data as at 30 September 2015. “Other” category represents sector-equity, commodities, alternative, convertibles, property, high yield, inflation-linked fixed income and allocation
funds as defined by Morningstar. Europe includes UK; Emerging markets includes both equity and fixed income.
Source: Vanguard calculations, based on data from Morningstar, Inc.
7 For an index-replicating ETF, it may comply with the increased flexibility of the “20/35” rule (available under Regulation 71 of the UCITS Regulations), which states that an indexreplicating ETF may invest up to 20% of its NAV in securities issued by the same body and up to 35% in securities issued by one issuer in exceptional market conditions.
8 The assets of each fund belong exclusively to that fund, shall be segregated in the records of the custodian from the assets of other funds, shall not (save as provided in the Acts) be used
to discharge directly or indirectly the liabilities of or claims against any other fund and shall not be available for such purpose. ETF shares purchased on the secondary market cannot
usually be sold directly back to the ETF provider.
9 In practice, investors typically buy and sell ETF shares on a secondary market with the assistance of an intermediary (e.g. a stock broker) and may incur fees for doing so. In addition,
investors may pay more than the current NAV when buying ETF shares on the secondary market and may receive less than the current NAV when selling them.
For Professional Investors as defined under the MiFID Directive only
3
3
ETFs provide additional benefits to market
participants
ETFs differ from MFs largely because of the way investors
transact in fund shares, and these differences provide
ETFs with additional benefits in terms of secondary market
liquidity and market-based prices. Secondary market
transactions represent an additional source of liquidity
for investors while market-based prices reveal valuable
information about market conditions.
Secondary markets provide an additional source of
intraday liquidity
ETFs give investors the flexibility to trade shares intraday,
and this intraday trading is recorded as trading volume on
the various European stock exchanges. However, the
overwhelming majority of this trading reflects secondary
market transactions (i.e., trading of ETF shares between
two market participants), and only a very small amount
results in primary market trading (i.e., trading in the
underlying securities market). The secondary market
provides investors with an additional source of liquidity,
meaning they can trade a broad portfolio of securities
without trading in the underlying market.
Figure 2: Cost differences are due more to investment
strategy than product structure
1.61.6
1.41.4
Expense ratio
As part of the portfolio-construction process, investors can
choose to implement their allocations using an indexbased or actively managed strategy.10 Some of the
hallmark characteristics of indexing include broad
diversification and low costs. ETFs have often been touted
for low costs and, although it is true that their expense
ratios tend to be lower than those of mutual funds, the
reduction in cost mostly reflects the difference between
indexing and active management. This is because 99% of
ETF assets follow index-based strategies, whereas just
7% of mutual fund assets follow index strategies (source:
Morningstar, Inc., as at 30 September 2015). Because
most index funds cost less than actively managed funds,
most index ETFs and index mutual funds have expense
ratios that are lower than those of active ETFs and active
mutual funds. Figure 2 illustrates that the expense-ratio
advantage has more to do with indexing than whether or
not the vehicle is an ETF.
1.3%
1.21.2
1.01.0
0.8%
0.80.8
0.60.6
0.40.4
0.3%
0.2%
0.20.2
0
Index
ETF
Active
Mutual fund
Notes: Data as at 30 September 2015. According to Morningstar, index mutual funds and
index ETFs are defined as vehicles that track a particular index and attempt to match the
returns of that index. Non-index vehicles include actively managed vehicles. The figure
depicts the median of the prospectus gross expense ratio. On an asset-weighted basis,
the average gross expense ratio for index ETF and mutual funds was 0.32% each while
for active ETFs and mutual funds it was 0.90% and 1.05%, respectively.
Source: Vanguard calculations, based
During the course of the trading day, investor orders to
buy and sell ETF shares are matched on an exchange
with the help of market makers. At the end of the trading
day, if market makers have a net short position in shares
of an ETF (i.e., they sold more than they bought) or a net
long position (i.e., they bought more than they sold), they
might decide to offset those positions by seeking to
create new shares or redeem the existing shares. ETF
creations and redemptions are usually executed once per
day using an NAV derived from the closing market prices
of the underlying securities.11
Figure 3a shows the percentage of daily equity ETF
trading volume conducted solely on the secondary
market. The median ratio was 99%, suggesting that
for every €1 in trading volume, only 1 cent resulted in
primary market trading. Put another way, 99% of the
trading volume resulted in no portfolio management
impact and no trading in underlying securities (Figure 3b
shows the same analysis for bond ETFs — the median
ratio here was also 99%).12
10 See Westaway et al. (2015) for a discussion of indexing.
11 The process by which ETFs issue and redeem new shares is actually quite similar to that of mutual funds. Mutual funds accept buy and sell orders throughout the day. At the end of the
day, only the difference between the buy orders and sell orders results in net share issuance or redemption. Shares are issued or redeemed once per day at their net asset value, at their
respective market close in the local market in which the security is traded.
12 This analysis does not capture all secondary market transactions as not all secondary market transactions are required to be disclosed on exchange within the current European
regulatory regime.
4
For Professional Investors as defined under the MiFID Directive only
Figure 3a. The vast majority of equity ETF trading volume is conducted on the secondary market
1.0000
Secondary market ratio
0.9975
0.9950
0.9925
0.9900
0.9875
0.9850
0.9825
0.9800
Oct
2012
Jan
2013
Apr
2013
July
2013
Oct
2013
Jan
2014
Apr
2014
July
2014
Oct
2014
Jan
2015
Apr
2015
July
2015
Sept
2015
July
2015
Sept
2015
Figure 3b. The vast majority of fixed income ETF trading volume is conducted on the secondary market
1.0000
Secondary market ratio
0.9995
0.9990
0.9985
0.9980
0.9975
0.9970
0.9965
0.9960
Oct
2012
Jan
2013
Apr
2013
July
2013
Oct
2013
Jan
2014
Apr
2014
July
2014
Oct
2014
Jan
2015
Apr
2015
Notes: Data cover the period 1 October 2012 to 30 September 2015. The ten largest equity ETFs and bond ETFs by assets were used here as proxies. Secondary market ratio measured as
secondary activity divided by the sum of primary market and secondary market activity. Primary market activity computed as daily creations or redemptions for each ETF, estimated by daily
change in shares outstanding multiplied by net asset value. Primary transactions refer to those that involve trading with the fund itself.
Sources: Vanguard calculations, based on daily data from Bloomberg Inc.
For Professional Investors as defined under the MiFID Directive only
5
5
Market prices reveal valuable information about
market conditions
An ETF’s market price can deviate from the value of its
underlying securities, revealing important information
about market conditions. The creation and redemption
mechanisms of ETFs generally keep the market price
close to the currently observed or implied value of an
ETF’s underlying securities (see the box, “Creation
and redemption of ETF shares” on page 7). Any small
differences between the two – known as “premiums”
when the market price is greater than the value of
the underlying securities and “discounts” when the
market price is lower than the value of the underlying
securities – are largely influenced by transaction
costs in the underlying securities’ markets, time-zone
differences across global markets and intraday
investor supply and demand for the ETF shares.
Underlying market transaction costs substantially
influence the existence of premiums and discounts.
What investors infer from the existence of premiums
and discounts can be somewhat misleading because
transaction costs are more transparent with ETFs
than with traditional mutual funds. In fact, not only
are such costs more transparent, but they are
externalised, meaning the costs associated with
trading ETFs in the market are passed along to the
investor. When trading ETFs, the investor bears the
cost of his or her own transaction.
During times of equilibrium, markets essentially have
balanced supply and demand. The premium (or even
discount) would reflect various costs faced by the
market maker, including those to transact in the
underlying market as well as fees related to the
creation or redemption of ETF shares.13 Figure 4
shows how the average premiums/discounts in ETFs
tend to be a function of underlying market transaction
costs. In the five categories shown, the median
premium/discount, indicated in the figure by the red
square, is centred around zero. However, we see that
European ETFs with exposure to European stocks are, on
average, subject to slightly higher levels of transaction
costs compared with the other equity categories
of ETFs, largely due to the European regulatory
environment. For example, financial transaction taxes
(FTTs) and stamp duties are commonly charged on
purchases of stocks within the major European markets
including Switzerland, Italy, France and the UK.14
The externalisation of such transaction costs is
reflected by the relatively higher premiums on
European equity ETFs than the other equity categories.
Figure 4. ETF premiums/discounts are a function of transaction costs and time-zone differences
Historical premium/discount distribution
1.5%
Premium/Discount
1.0
0.5
0.0
-0.5
-1.0
-1.5
-2.0
Euro equity
Euro government bonds
Euro corporate bonds
EM equity
US equity
Notes: Dataset includes all available ETFs from 1 November 2012 to 30 October 2015, in each category as defined by Morningstar. “Euro equity” represents European Region, Eurozone
and European Union Morningstar categories; “Euro government bonds” represents Short, Intermediate and Long government bonds issued within Europe within the Morningstar
categories; “EM Equity” represents all Emerging Market equity Morningstar categories; “US equity” and “Euro Corporate bonds” represent their respective Morningstar categories. Each
box represents 5th–95th percentiles; whiskers represent 0.5%–99.5% of observations; and red squares represent the median value for each category, using daily data from Bloomberg. For
an evaluation of premiums/discounts and trading volume during the 2007–2009 financial crisis, see Figures A-1 and A-2, respectively. For an evaluation of premiums/discounts and trading
volume during the 2015 “Greek crisis” see Figures A-3 and A-4, respectively.
Sources: Vanguard, based on data from Morningstar, Inc., and Bloomberg Inc.
13 Transaction costs could also include stamp duties or transaction taxes that are charged by some European countries. Most notably, the UK charges a 0.5% stamp duty on the purchase of
any UK equity. Hong Kong also has a stamp duty of 0.5% on purchases and sales.
14 Information sourced from London Stock Exchange Group.
6
For Professional Investors as defined under the MiFID Directive only
Figure 4 also illustrates how the variability of the
premium/discount is largely a reflection of time-zone
differences between an ETF’s trading hours and the
trading hours of the underlying securities, as well as the
propensity of the underlying market’s transaction costs
to fluctuate. In the case of time-zone differences, the
effects can be seen notably with US equity and emerging
market equity ETFs traded from the European region. The
fluctuating levels of transaction costs can most notably
be seen between corporate and government bond ETFs.
Effect of time-zone differences. Most ETF NAVs – and
stock-index values – are calculated using the closing
prices of the underlying securities in their local markets.
However, Asian markets close before the European
markets, which means that the local prices of Asian
stocks are stale as trading continues in European
markets. In addition, North American markets do not
open until midway through the European trading day,
meaning that the local prices of North American stocks
are stale when trading commences in European markets.
Price-affecting information continues to enter the global
marketplace, but does not affect the underlying stocks in
an ETF portfolio with exposure to non-European stocks
when the markets in which those underlying stocks
trade are closed. In the meantime, ETF portfolios with
exposure to non-European stocks continue to trade in
Europe, and market participants set prices on these ETFs
based on what the underlying stocks would likely be
worth if their local markets were still open for trading.
Thus, the ETF’s market price more accurately represents
the value of the underlying stocks in the portfolio.
Effect of transaction costs. We see greater variability
with European bond ETFs relative to European equity
ETFs because of the increased complexity of bond
transactions. Similarly, corporate bond ETFs display
higher variability than their government bond counterparts
due to the increased complexity of corporate bond
transactions vs. government bonds. Corporate bond ETFs
are more subject to changing levels of transaction costs
than government bonds due to the greater volatility in
transaction costs of corporate bonds. If there is greater
relative demand to buy an ETF, the ETF’s market price
could rise, causing premiums to grow. The opposite is
true if there is increased demand to sell an ETF. Given
greater relative pressure to sell an ETF, the ETF’s market
price could drop, causing premiums to fall or possibly
leading to the emergence of a discount.
Creation and redemption of ETF shares
ETF shares are created and redeemed by an entity
known as an authorised participant, or AP, typically a
large broker-dealer. Each business day, the ETF publishes
a “creation basket”— a list of names and quantities of
securities or other assets. To create ETF shares, an AP
delivers the creation basket to the ETF and receives in
return a creation unit, a large block of ETF shares. Under
certain circumstances, the AP may provide cash in lieu of
some or all of the securities, along with a transaction fee
to offset the cost to the ETF of acquiring them. Upon
receiving the ETF shares, the AP may sell some or all of
them in the secondary market.
A creation unit is liquidated when an AP returns the
specified number of shares to the ETF in exchange for
the “redemption basket” (generally comprising the
same list of securities as the creation basket). If the AP
receives cash in lieu of securities, the AP typically pays a
transaction fee to offset the cost to the ETF of liquidating
the securities.
The creation and redemption mechanisms help ETF
shares trade at a price close to the market value of
their underlying assets. When rising demand for the
shares causes them to trade at a higher price (i.e., at a
premium), the AP may find it profitable to create shares
by buying the underlying securities, exchanging them for
ETF shares and then selling those shares into the market.
Similarly, when falling demand for the ETF shares causes
them to trade at a lower price (i.e., at a discount),
an AP may buy shares in the secondary market and
redeem them to the ETF in exchange for the underlying
securities. These actions by APs, commonly described as
“arbitrage activities”, help keep the market-determined
price of an ETF’s shares close to the market value of the
underlying assets.
For Professional Investors as defined under the MiFID Directive only
7
7
During times of lower liquidity in the underlying markets,
these premiums or discounts could expand. However, if
the size of the premium or discount were to exceed the
heightened transaction costs of the underlying market,
market makers and authorised participants would have an
incentive to engage in the creation or redemption of new
shares. It’s important to be aware that even though the
level of the premium or discount can vary, the ETF’s bidask spread itself can still remain tight. In fact, the bond
ETF bid-ask spread is often tighter than the spread on
the underlying bonds, because the ETF consolidates the
many different bonds in the underlying strategy into a
standardised, tradable unit, concentrating liquidity. As
previously mentioned, this liquidity in the shares of the
bond ETF adds to the liquidity of the underlying bond
market, since market participants can buy and sell bond
market exposure by trading solely in the shares of
the ETF.
When analysing premiums and discounts, it’s critical to
note that a MF portfolio manager trying to buy or sell the
same basket of securities as those found in an ETF may
also be facing the same transaction costs. However, MF
investors do not see those costs in real time; rather, the
costs are captured as part of the fund’s NAV. In addition,
investors trying to trade individual bonds in smaller
quantities would likely face even higher transaction
costs—especially in the non-government sectors of the
bond market (see Bennyhoff, Donaldson and Tolani,
2012). That is why premiums and discounts in ETFs –
especially bond ETFs – are largely a reflection of the
externalisation of transaction costs.
8
In summary, the divergence of market price from net
asset value among international equity and bond ETFs
is a natural outcome of the relationship between an
ETF and its underlying securities. This serves to reveal
valuable information about market conditions (as
investors trade at mutually agreed-upon prices). There
are times when market conditions result in larger
deviations between current and stale security pricing
or in higher transaction costs.
Conclusion
ETFs offer an attractive and efficient way for investors
to implement an investment strategy. ETFs’ broad
acceptance in the market can be tied to their
fundamentally similar characteristics with MFs,
including their organisational structure, their strict
regulatory framework and, for many ETFs, their indexbased nature. As a result, investors have used ETFs
and MFs for similar purposes. ETFs also possess
important features stemming from the method by
which investors transact in fund shares. Notably,
secondary markets serve as an additional source of
intraday liquidity for investors. Moreover, ETF market
prices reveal valuable information about market
conditions, including the level of transaction costs
in the underlying markets and, with respect to
international equity ETFs, a more current value of
that ETF’s underlying securities. This means that
the trading of ETFs represents an on-exchange source
of liquidity at a mutually agreed-upon price between
market participants.
For Professional Investors as defined under the MiFID Directive only
References
Bennyhoff, Donald G., Scott J. Donaldson, and Ravi
Tolani, 2012. A Topic of Current Interest: Bonds or Bond
Funds? Valley Forge, Pa.: The Vanguard Group.
European Securities and Markets Authority (ESMA).
MIFID (II) and MIFIR
https://www.esma.europa.eu/policy-rules/mifid-ii-and-mifir
London Stock Exchange Group. Financial Transaction Tax
(FTT), What is Financial Transaction Tax?
http://www.lseg.com/markets-products-and-services/
post-trade-services/unavista/regulation/financialtransaction-tax-ftt
Central Bank of Ireland. Introduction to Undertakings for
Collective Investment in Transferable Securities (UCITS)
https://www.centralbank.ie/regulation/industry-sectors/
funds/ucits/Pages/default.aspx
Investment Company Institute, Washington, D.C. 2015.
2015 Investment Company Fact Book: A Review of
Trends and Activities in the U.S. Investment Company
Industry, 55th ed.
http://www.icifactbook.org/fb_ch3.html
Kinniry, Francis M., Jr., Donald G. Bennyhoff, and Yan
Zilbering, 2013. Costs Matter: Are Fund Investors Voting
With Their Feet? Valley Forge, Pa.: The Vanguard Group.
Westaway, Peter, Todd Schlanger, and Savas Kesidis,
2015. The Case for Index Fund Investing for UK
investors. Valley Forge, Pa.: The Vanguard Group.
Central Bank of Ireland. Statutory Instruments. S.I. No.
420 of 2015. Central Bank (Supervision and Enforcement)
Act 2013, (Section 48(1)) (Undertakings for Collective
Investment in Transferable Securities) Regulations 2015.
https://www.centralbank.ie/regulation/industry-sectors/
funds/ucits/Documents/151005-Final%20UCITS%20
CBI%20Regs%20searchable-%20rhd.pdf
Noel Amenc, Felix Goltz, Veronique Le Sourd, Ashish
Lodh, Sivagaminathan Sivasubramanian. The EDHEC
European ETF Survey 2015, February 2016.
For Professional Investors as defined under the MiFID Directive only
9
9
Appendix. Premiums/discounts and trading volume of ETFs during the 2007 – 2009 global financial crisis
and the ‘Greek crisis’ of May – August 2015
Figure A-1 measures premiums/discounts across five ETF
categories, specifically during the global financial crisis of
2007–2009. The relationships between the average and
variability of premiums/discounts and the fund category
are shown to be similar to findings displayed earlier
in Figure 4: the median premium/discount rises in
accordance with the liquidity characteristics of the
underlying markets. Also, the relative variability of
premiums/discounts across the five categories is
similar to that in Figure 4 (though each category
exhibits greater variability when compared to itself).
There are more extreme levels of discount
observations in Figure A-1’s earlier time period,
highlighting the difficult conditions at this time.15
Figure A-1. ETF premium/discount relationships during 2007–2009 financial crisis were similar to those in Figure 4
Global financial crisis
5%
4
Premium/Discount
3
2
1
0
-1
-2
-3
-4
Euro equity
Euro government bonds
Euro corporate bonds
EM equity
US equity
Notes: Dataset includes all available ETFs in each category as defined by Morningstar (see notes to Figure 4 for fund representation by category) during the global financial crisis, defined
here as the period 1 October 2007 to 31 March 2009. Each blue box represents 5th–95th percentiles; whiskers represent 0.5%–99.5% of observations; red squares represent the median
value for each category.
Sources: Vanguard calculations, based on data from Morningstar, Inc. and Bloomberg Inc.
Daily trading voilume (millions)
Figure A-2. Bond ETF trading volume remained robust
on ‘discount days’ during 2007–2009 financial crisis
800
800
700
700
600
600
500
500
Figure A-2 compares the total daily trading volume of
bond ETFs on all days during the 2007 – 2009 global
financial crisis with those days during the defined
period on which they traded at a discount. Despite the
challenging bond market conditions, market participants
were able to use ETFs to transact in these asset classes
at a mutually agreed-upon price.
400
400
300
300
200
200
100
0
Government fixed income
Total volume
Corporate fixed income
Total discount volume
Notes: Dataset includes all available ETFs in each category as defined by Morningstar
(see notes to Figure 4 for fund representation by category) during the global financial
crisis, defined here as the period 1 October 2007 to 31 March 2009.
Sources: Vanguard calculations, based on data from Morningstar, Inc. and Bloomberg Inc.
15 Given the relatively immature nature of the ETF market within Europe during this time frame we potentially see larger than expected discounts reached.
10
For Professional Investors as defined under the MiFID Directive only
Figures A-3 and A-4 mirror the analysis performed in
Figures A-1 and A-2, but instead using the time period
of May through to the end of August 2015, known as
the “Greek crisis,” when Greece asked the IMF to
postpone a repayment on its loans, all Greeks Banks
were shut, cash liquidity measures were put in place
and the Greek stock exchange was temporarily closed.
In Figure A-3 the relationships between the median
and variability of premiums/discounts and the fund
category are again similar to our earlier findings in
Figure 4. In particular, as this period most directly
affected emerging markets, the figure shows that the
most extreme premium/discount observations were
with the EM equity category, where deviations of
around 1% were recorded; all other categories traded
within their historic levels similar to those seen in
Figure 4. Figure A-4 shows that, notwithstanding
the challenging market environment, participants
transacted in greater amounts on discount days.
Figure A-3. ETF premium/discount relationships during ‘Greek crisis’: May–Aug 2015
Greek crisis
2%
Premi um/D i scount
1.5
1.0
0.5
0
-0.5
-1.0
-1.5
-2
Euro equity
Euro government bonds
Euro corporate bonds
EM equity
US equity
Notes: Dataset includes all available ETFs in each category as defined by Morningstar (see notes to Figure 4 for fund representation by category) during the Greek crisis, defined here as
the period 1 May 2015 to 31 August 2015. Each blue box represents 5th–95th percentiles; whiskers represent 0.5%–99.5% of observations; red squares represent the median value for
each category.
Daily trading volume (millions)
Figure A-4. Equity ETF trading volume remained
robust on discount days during the ‘Greek crisis’:
May–Aug 2015
4,000
400
3,500
350
3,000
300
2,500
250
2,000
200
1,500
150
1,000
50050
0
Euro equity
Total volume
EM equity
Total discount volume
Notes: Dataset includes all available ETFs from May 2015 to August 2015 in each
category as defined by Morningstar (see notes to Figure 4 for specific fund
representation by category).
Sources: Vanguard calculations, based on data from Morningstar, Inc. and Bloomberg Inc.
For Professional Investors as defined under the MiFID Directive only
11
11
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VAM-2016-03-07-3389