Jul 27, 2012
ESMA ETF guidelines widely welcomed by buy-side
Market participants have embraced a new set of guidelines on
exchange-traded funds (ETFs) published by European watchdog the European
Securities and Markets Authority (ESMA) this month, lauding the potential to
improve transparency in the instruments.
ESMA’s guidelines, which follow on from a consultation the
organisation held in January this year, set out the information that should be
given to investors about index-tracking UCITS (funds for retail investors) and
UCITS ETFs; they also set out the criteria for financial indices in which UCITS
may invest.
“This review of ETFs has been a long time in coming,” said
Steve Wood, founder of Global Buy-Side Trading Consultants and former global
head of trading at Schroeder Investment Management. “As they get more
convoluted, ETFs are effectively becoming structured products in some cases –
and until now, they have often been slipping under the regulatory radar. I
wouldn’t be surprised if ETFs were to be the source of the next big scandal in
financial services.”
ETFs are baskets of securities normally benchmarked against
an index. They offer investors a simple, low-cost means to gain exposure to a
given asset class, set of securities or region without the time-consuming stock
picking process. However, some observers pointed out over the past few years that
the increasing complexity of some ETF products may be putting investors at
risk.
ESMA published the guidelines following a review of the
current regulatory regime, which was found to be “insufficient” to address the
risks associated with these kind of funds and trading techniques. Under the new
rules, UCITS that are classified as UCITS ETFs will have to carry the
identifier UCITS ETF in their name, as well as ensure appropriate redemption
conditions for secondary investors by opening the fund for direct redemptions
when the liquidity in the secondary market is lacking.
For Wood, the rising complexity of ETF products has long
concealed the potential for abuse. While pointing out that over-regulation
could backfire if investors were inundated with too much information in the
form of large regulatory documents, he suggested the need for a more open, more
coherent picture of ETFs and their structures was genuine, and welcomed the new
guidelines.
“These instruments may not do what it says on the tin,” he
said. “Some investors are using ETFs because they don’t have a licence to trade
futures. It’s important to improve transparency in these products. If ESMA’s
guidelines help provide institutional and retail investors with greater clarity
on what they are getting into, that is a very positive thing.”
ESMA is currently running a further consultation that will
determine the appropriate treatment of repo and reverse repo arrangements in
the context of the ETF guidelines. Once adopted by ESMA, the guidelines on repo
and reverse repo arrangements will be integrated into the guidelines on ETFs
and other UCITs issues in a single package. The consultation runs until 25
September 2012.
Elliott Holley
+44 (0)20 7397 3820
elliott.holley@information-partners.com