Following China Post Global's launch of its first ETFs in the UK after acquiring Royal Bank of Scotland's ETF range last year, SRP spoke to Danny Dolan (pictured), a UK-based managing director about the appeal of offering exposure to China via ETFs and how to capitalise on smart beta strategies to increase the chances of enhanced returns for investors.
The first UK tracker fund will be a China onshore equity smart beta ETF, applying a minimum variance strategy to the China A-Shares market. The Hong Kong-headquartered asset manager also plans to launch a China A-Shares smart beta ETF in the second quarter, with both funds undergoing regulatory approval in Luxembourg, according to Dolan.
Putting China and smart beta together, apart from being something that has not been done before in Europe, is also a very good fit with the firm's own strengths, according to Dolan. "These are the competitive edges that we have to capitalise on," said Dolan. "We combined our research capabilities with those of Stoxx and MUTB to come up with the best smart beta concepts to apply to the Japan and China markets. We definitely see smart beta strategies as a strong way to add value to the market."
According to Dolan, the main elements of the forthcoming launches is that they apply smart beta to add value to investors. "Complexity for the sake of complexity does not solve problems," said Dolan. "What we see a lot is that investors want more China exposure in their portfolio, as they realise that there is very strong performance to be captured in that market."
Investors have started to use ETFs as core building blocks in portfolios and now tend to be more selective about actively managed funds and less willing to pay higher fees for active management unless they see a clear rationale, according to Dolan. "As a hybrid between active and passive management, smart beta gives investors desirable exposure at a lower cost, in addition to a purely scientific, quantitative model-based approach," said Dolan. The company's products will be compliant with the Undertakings for Collective Investment in Transferable Securities regime because "investors also want the extra protection of the Ucits framework".
China Post Global has been agnostic between physical and synthetic replication, and has chosen the most efficient method for each particular index, according to Dolan. "Cost efficiency and Ucits compliance are the two biggest factors in deciding replication," said Dolan. "Several of our existing ETFs track commodity indices for example, and synthetic replication works best on both counts.
"With the recent addition of Shenzhen to the Stock Connect programme, we realised that Stock Connect was the best way for our funds to access China's equity market," said Dolan. "This reduces transaction costs for investors compared with the RQFII quota regime. We also like the flexibility Stock Connect provides, as the ETF can grow without filling up its RQFII quota and having to suspend subscriptions while it applies for more, which we've seen happen in the past."
In terms of swap counterparties, China Post Global has "a very detailed best execution policy" for index swaps with 11 different factors, according to Dolan. At present, Goldman Sachs and Barclays are the company's counterparties with products "split pretty evenly between the two" but JP Morgan and RBS have also been behind some of the company's trades.
"The first key aspect [when choosing a swap counterparty] is obviously pricing," said Dolan. "The second, which is at least as important as pricing, is strong credentials in a particular market. This is essential, because in the event of an unexpected issue, we want to be dealing with a counterparty that is equally familiar with the market."
Investors are also increasingly looking beyond home markets for liquidity, said Dolan. "We realised that retail investors and their brokers are increasingly looking beyond their home markets in search of liquidity, while institutional investors tend to trade over-the-counter (OTC), rather than on an exchange anyway," he said.
Regarding the use of environmental, social and governance themes, an ESG-focused ETF on China would be of interest. "We're very well placed to offer it given our insight and research we have access to and very strong index providers we work with," said Dolan. "We remain very open to ESG."
As for new ways of distribution to expand, Dolan points at roboadvisory tools as a positive development, addressing a particular need around transparency and conflicts of interest as products are "selected on merit, rather than via an arrangement between advisors and providers".
Roboadvisors are helping to bridge the advice gap and ensure that it is not just very wealthy or larger investors that have access to selection tools. "[This is] a good thing for the market and an area we expect will continue to grow," said Dolan. "If you consider the changing demographics of the investor market, younger generations are very comfortable with technology and they value convenience highly. Younger investors are looking to educate themselves and make their own independent decisions."
The Hong Kong-headquartered asset manager, a subsidiary of the US$23bn (£18.7bn) China Post & Capital Global Asset Management, which specialises in commodities and emerging and frontier markets, acquired RBS's 10-strong Market Access ETF range in March 2016, which had €360m (£284m) of assets under management (AUM).
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