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Four Steps to ETP Selection
As previously discussed. we believe that using a methodical. trading and valuation as well as total cost of ownership. Product and service philosophy of the ETP provider: The breadth of product offering is an important consideration as it provides you with the peace of mind that you will have ease of access to a broad variety of exposures with the same quality of product design and excellence of client service that you expect. While these areas are important to consider in isolation. Total Cost of Ownership and Securities Lending. This success has been accompanied by an ever-increasing choice of product and in some instances added complexity of product structure. Select the product Beyond the questions suggested above we also recommend investors consider the following questions which are less focused on structure. Rule In and Rule Out Criteria. Based on investor feedback we have identified the key elements that investors should consider when evaluating an ETP: Structure. While there are many factors to consider. Our reference tools include: `` ETP due diligence process flow which charts four key steps: Evaluating the ETP Provider. 2. `` Three case studies to demonstrate how to implement this process in practice depending on investment criteria and target product. Evaluating the Product Structure using the proposed classification. and finally Selection of the Product to be invested in..com n ISHARES <GO> . it is important to have as much clarity as possible on what exposure the product offers. Tax. it is also about something one could refer to as a ‘gut feeling’ – do I want to do business with this provider? The set of questions below should assist in establishing which ETP provider best meets the key metrics.iShares. In the following we provide a step-by-step approach to the best way to conduct an ETP due diligence process using the iShares due diligence framework. restrictions and specific considerations. When selecting an ETP investors are faced with a significant challenge of navigating the maze. Quick rule in rule out criteria These are the speciﬁc considerations that should help you select the right ETP for legal. Trading and Valuation. track record. Performance. 3. Structural Risk is the risk you assume based on how a product is structured and the inherent protections offered — or not! Physically replicating ETF OR Derivative replicating ETF OR ETCs or ETNs 4. Evaluate the product structure When evaluating which product structure is best suited to you. We suggest this is broken down into Market Risk and Structural Risk. thorough selection approach should help an investor make the most informed investment decision. performance. Figure 1: ETP due diligence process flow 1. tax or compliance reasons. size of the business etc. www. These are posed to ensure the investor can obtain the right level of comfort with the product and its speciﬁc characteristics around data. This process is not intended to be a ‘one size fits all’ and should depend on an investor’s investment objectives. such as stature. Evaluate the ETP provider Assessing stability and comfort with a potential ETP provider: As much as it is critical to look at the provider in terms of tangible metrics.Four StepS to etp Selection 1 Due Diligence Guide: Exchange Traded Product (ETP) Selection Process It all starts with asking the right questions Exchange Traded Products (ETPs) have grown exponentially within the investment product landscape and enjoy increasing acceptance amongst a broad set of investors. clients often assess a combination of these criteria in order to extract meaningful and actionable conclusions. General Performance: tracking error and tracking difference Trading and valuation Total Cost of Ownership Source: BlackRock. years in the industry.
The investment criteria to be met are: `` Backed by physical gold: this criteria eliminates ETFs and `` Case 2: ETP with exposure to the CAC 40 Index. Case 1: ETP with exposure to the DAX 30 Index A European-domiciled investor is seeking exposure to the German Large Cap equity market as represented by the DAX 30 benchmark.iShares. criteria. Evaluating the ETP provider. such as Exchange Traded Commodity (ETC) and Exchange Traded Note (ETN). Selection case studies: from theory to practice Figure 1 gives an overview of the considerations an investor may go through when conducting ETP due diligence. transportation. physically replicating ETF with long-term track record. Rule in and rule out criteria.com n ISHARES <GO> 2 . `` physically replicating structure is not one of the criteria. Selection of the product to be invested in. Traded Fund (ETF). `` Performance track record over the last ten years: as the investor is looking for a strategic allocation to the German equities. As investor can select derivative replicating ETF. www. `` Physically replicating structure: the preference of physically replicating type eliminates derivative replicating ETFs. then perhaps you need to reconsider the investment in this ETP. insurance costs and logistics. Evaluating the product structure. leaves a choice of ETCs. the investor eliminates non-ETF structures.Four StepS to etp Selection `` The essential list of questions that we believe investors Case 2: ETP with exposure to the CAC 40 Index A French-domiciled investor is seeking Domestic Large Cap equity exposure. 3. Depending on your preferences and investment objectives you will potentially take a slightly different approach every time when conducting your ETP due diligence to ensure that you are assessing the considerations that are most critical and relevant to you and the ETP in focus. If after your due diligence review you are unhappy with or unclear about any of the responses to the questions. backed by physical gold The Essential List: key questions for ETP selection We propose four key areas to be assessed as part of the ETP due diligence process: 1. 2. derivative replicating ETF domiciled in France. 4. the investor eliminates ETCs and ETNs. Now let’s consider how investors with differing investment objectives would implement this process when investing in three example ETPs below: `` Case 1: ETP with exposure to the DAX 30 Index. `` Case 3: ETP with exposure to physical Gold. `` Domicile: a preference for local domicile for local security investment from a tax perspective. The investor chooses to invest in gold ETPs as investing directly requires storage. There are several criteria which the investor is looking to meet when selecting the most appropriate product: `` UCITS-compliance: by choosing a UCITS-compliant Exchange Choice: UCITS permitted ETC. performance criteria can be more important than trading and liquidity. `` UCITS eligibility: permitted investment for a UCITS fund. All ETFs with a track record less than ten years are eliminated. Choice: UCITS-compliant. Choice: UCITS-compliant. Case 3: ETP with exposure to physical gold A UK-domiciled investor is seeking exposure to physical gold. The criteria which the investor is looking to meet are as follows: `` UCITS-compliance: by choosing UCITS-compliance as the first should be asking when assessing any ETP investment.
legal and compliance 1. How many stocks are typically held in the portfolio and the index? 4.iShares. 4. 6. 3. 5. 4. 7. Are collateral holdings. Where is the fund domiciled? Can you invest in a fund domiciled in this country? Is the required tax reporting status provided? Is this a UCITS fund? Will the fund distribute capital gains and dividends in a manner which is appropriate for you from a tax perspective? Can a UCITS fund invest in this ETP? Can you invest in derivative replicating products? Can you invest in ETNs/ETCs? Does the fund meet your minimum AUM requirement and fund tenure/track record requirement? 2. is it also the sole market-maker? 3. Are basket collateral holdings. What are the rules that determine the quality of collateral positions? What are the liquidity rules applied to the collateral basket? 5. exposure limit.com n ISHARES <GO> . or is it diversiﬁed across several counterparties? 2. over collateralisation)? 7. are there clear investment guidelines for collateral selection and rigorous risk management processes? How is the beneﬁt of any securities lending revenue generated on the swap-counterparty’s hedge reﬂected in the swap spread paid by the fund? Source: BlackRock. 3. counterparties and level of over collateralisation disclosed on a daily basis? 8. Who are the swap-counterparties? What are their credit ratings? Are they independent from the ETF provider? 4. Are the physical ETFs fully replicating or optimised/ sampled? Is this information clearly shown? 2. accuracy of information provided and generally having experienced personnel available to help? Rule in and rule out criteria: tax. What are the rules that determine the quality of stocks held within the collateral basket? What are the liquidity rules applied to the collateral basket? 6. why not? 5. counterparties and level of over collateralisation disclosed on a daily basis? 9. What is the swap spread? If not disclosed. How easy is it to gain access to the collateral pool in case of counterparty default (pledge versus transfer of title)? 8. are there clear investment guidelines for collateral selection and rigorous risk management processes? How is the beneﬁt of any securities lending revenue generated on the swap counterparty’s hedge reﬂected in the swap spread paid by the fund? Fully funded swap structure 1. 5. If derivatives are used in the ETF. exposure limit. Does the swap-counterparty conduct securities lending on the hedge positions? If yes. swap pricing. Does the swap counterparty conduct securities lending on the hedge positions? If yes. 3 Evaluate the product structure Physically replicating ETFs 1. are there clear investment guidelines for collateral selection and rigorous risk management processes? What is the level of securities lending revenue and how is it split between the fund and issuer/securities lending agent? OR Derivative replicating ETFs Unfunded swap structure 1. 2. 6. Is the swap exposure to a single counterparty. Does the ETF participate in securities lending? If yes. Can you see fund holdings on a daily basis? 3. processes and technologies to support the ETP business of the provider? Is the value-chain of the ETP provider transparent? Are there any potential conﬂicts of interest? Does the ETP provider offer the breadth of products you seek? Does the ETP provider offer listings on the exchange(s) you require? Does the ETP provider deliver a high standard of service demonstrated by responsiveness to questions. www. why not? 4. 9. How easy is it to gain access to the collateral pool in case of counterparty default? (pledge versus transfer of title) 7.Four StepS to etp Selection 3 ETP due diligence process flow 1 2 Evaluate the ETP provider 1. is it restricted to efﬁcient portfolio management? 6. How do you feel about the stability and longevity of the ETP provider? Is asset management a core business of this ETP provider? Does this ETP provider have a proven track record of managing client assets over multiple market cycles? Does the ETP provider manage a meaningful amount of client assets (AUM) and scale? What are the people. or is it diversiﬁed across several counterparties? 2. What is the swap spread? If not disclosed. Is the swap exposure to a single counterparty. If a single swap-counterparty. swap pricing. How is the counterparty exposure managed (frequency of reset. over collateralisation)? 6. 8. How is the counterparty exposure managed (frequency of reset. Who are the swap-counterparties? And what are their credit ratings? Are they independent from the ETF provider? 3. Does the portfolio hold the same underlying securities as the index? 5.
3. Can you easily ﬁnd the following data: daily NAV history. If yes to 12 above. Is the framework for holding collateral disclosed? 6. Is the ETC backed by the physical commodity? 2. Is total return data available publicly and of good quality? What is the inception date of the fund? What is the tracking difference over a time horizon of 6 months. Evaluate the product structure OR ETNs or ETCs ETNs 1. What are the security lending revenues. Can a UCITS fund hold the ETN? 12. fund distributions and performance versus the benchmark? Performance: tracking error and tracking difference 1. total return NAV. can a UCITS fund hold this ETN embedding a derivative? ETCs 1.com n ISHARES <GO> 4 . what do average lending rates look like? www. since inception? And what are the main reasons for any unusual tracking difference? What is the tracking error over a time horizon of 6 months. 1 year and 3 years. since inception? 4. are there additional costs in addition to the swap spread and TER? 6.Four StepS to etp Selection 4 Select the product General 1. What is the Total Expense Ratio (TER)? Is the management fee different from the TER? 2. What is the AUM for this particular fund? Does the ETP provider give independent advice on best trade counterparties? Does the ETP provider consistently ensure the level of two-way liquidity in their products you seek? Is there multi market-maker support for liquidity? How many market-makers support the fund? What is the ETP turnover. auditor. Is the ETN backed by the issuer’s credit? If yes. What is the current average spread? 2. 1 year and 3 years. 5. 2. 7. For derivative replicating ETPs. best bid/offer spread and size on the secondary market? Does the ETP trade at a premium or a discount to NAV? Can the fund be traded at NAV? How has liquidity been affected in past stressed market conditions? 4. Is there over collateralisation? 7. Who is the underwriter and what is its credit rating? 2. Are assets kept with an independent custodian? 4. What are the creation/redemption costs? 3. How effective are the segregation of assets between multiple notes exposures? 10. 2. Are assets kept with an independent custodian? Is there a trustee? 11. Please list the custodian. What are the rebalancing costs/revenues? 5. Is there an SPV structure in place or is there direct exposure to the issuer’s balance sheet? 3. Can the ETP units be lent out? If so. administrator and registrar for the ETP (if there are such parties). What is the swap spread? 4. is there transparency around underlying collateral? 5. For secured ETNs. How much of this data is public? How frequently is it published? External factors 1. Is the ETC backed by securities not related to the ETC exposure? 3. Can a UCITS fund hold the ETC? Trading and valuation 1. if any? 3. 3. is that exposure collateralised? 4. How effective is the segregation of assets between multiple notes exposures? 5. What fees are paid to the notes promoter? 8. Are there any payments to the fund promoter other than promotion or distribution fees or payments from the notes issuing vehicle? 9. Does the ETN embed a derivative? 13.iShares. 6. What is the Total Cost of Ownership? Ownership? Internal factors 1. 2.
Four StepS to etp Selection 5 Summary The ETP market has enjoyed outstanding growth and increasing acceptance amongst a broad set of investors over the last 30 years. To discuss this process in more detail and to find the most suitable approach for investors please speak to a local iShares representative. iShares believes it is uniquely placed to establish a solid framework of key considerations for ETP selection and help you to make the most appropriate choice. To assist investors navigating through the wide choice of ETPs we have compiled a range of reference tools. We hope this practical brochure to the ETP selection process will enable investors to confidently navigate the ETP landscape as well as result in a more standardised focus of the industry as a whole. This success has been accompanied by an ever increasing choice of product and in some instances added complexity of product structure.com n ISHARES <GO> . As the leading global provider of ETPs.iShares. such as the ETP due diligence process flow. selection case studies and a list of essential due diligence questions. www.
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