ETFs: An Advanced Alternative to Indexation

Retail Investing 28 Aug 2006

By: Yang Rong
Published: March 6, 2006

Yang Rong’s observations about ETFs support their use as an alpha-isolation tool by hedge fund managers.  Which begs the question, “why just hedge funds?”.

Excerpts: 

“ETFs are often used for shorting purposes due to their intra-day trading rules, which not only help hedge funds to remove regulatory issues, but also generate revenue from lending the stock and cutting down on the total expense ratio (TER) of other ordinary funds. Such advantages attract a great many fee-based institutions and hedge funds. Brokers have reached agreements with various ETF managers on creations and redemptions and will therefore get the fund to issue more shares if necessary, which guarantees the fund liquidity. Additionally, as futures contracts are only available on the main stock market equity indices, whilst there are many more ETF offerings, ETFs could easily have more exposure (such as sector exposure) than futures contracts.”

“a relatively small minority of Europe’s institutional investors are using ETFs today, and a large number of reputedly sophisticated institutional investors have little to no interest or knowledge of the products owing to insufficient education on ETFs. Most European pension funds place ETFs in the same category as hedge funds, private equity funds and other alternatives.”

…In a strange way, European institutions are correct to place ETFs in the same category as hedge funds since these are the two base components (“genes”) of any active portfolio.

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