How new fund regulations will affect you

A European regulator is forcing providers of exchange-traded funds (ETFs) to be clearer on how their funds work. Paul Amery explains what that means for you.

A battle is raging between regulators and the providers of financial benchmarks indices such as the FTSE 100 over how much information they should disclose to investors. This may sound arcane, but it has a real impact on any investor in exchange-traded funds (ETFs) or other index trackers. I'll explain why shortly, but first, what is the argument about?

ESMA, Europe's securities markets regulator, has decided that if a European retail investment fund (a Ucits') wishes to invest in a financial index, then from next year it will have to make sure that a full explanation of how the index is constructed is available on a public website.

Almost all European ETFs are both Ucits and index-trackers of some sort, so are directly affected. But index providers aren't keen. They fear that the intellectual property' they provide via their indices will be diluted if they have to disclose too much about how those benchmarks work. In turn, their substantial licensing fees could be watered down if ESMA's proposals take root.

Why does this matter to you? Well, compare a traditional fund with an index-tracking ETF. If you invest in an actively managed fund, you hand responsibility for looking after your hard-earned cash to a fund manager, who decides what to buy and sell with your money.

Index trackers, on the other hand, use a formula to deploy their money (which is one reason why they are much cheaper). When the FTSE 100, for example, picks the top 100 British firms and weights them by market size, your money follows suit. This means your ETF's performance relies entirely on the rules used to build the underlying benchmark. So you need to understand what they are.

Now, this might not matter for a simple index like the FTSE 100. But it's very important if you want to invest in one of the many indices that now use quite sophisticated strategies. For example, some indices generate very high turnover (stocks move in and out on a regular basis), and it may be unclear if and how such trading activity has been reflected in past performance figures.

It's fair to say that up until now the levels of disclosure on index-related information on ETF issuers' websites have been poor. So it's good news that ESMA is insisting on more. In the meantime, as always, if you plan to buy an ETF, make sure you understand exactly what it does and how it does it otherwise, leave well alone.

Paul Amery edits www.indexuniverse.eu, the top source of news and analyses on Europe's ETF and index-fund market.

Recommended

When investors get over-excited, it’s time to worry – but we’re not there yet
Sponsored

When investors get over-excited, it’s time to worry – but we’re not there yet

When investors are pouring money into markets, it can be a warning sign of impending disaster, writes Max King. So how are fund flows looking right no…
26 Oct 2021
Larry Fink: the undisputed king of Wall Street
People

Larry Fink: the undisputed king of Wall Street

Larry Fink survived two big financial crises and went on to build a massive asset manager, doing for investing what Henry Ford did for cars. He has hi…
23 Oct 2021
If you want to get exposure to bitcoin, I have this great idea for you
Bitcoin & crypto

If you want to get exposure to bitcoin, I have this great idea for you

As bitcoin climbs to new highs, you can now buy a bitcoin ETF. But if you really want to get some exposure to bitcoin, there’s a much better way, says…
20 Oct 2021
Index tracker funds won't shield your wealth from inflation – here's why
Investment strategy

Index tracker funds won't shield your wealth from inflation – here's why

If you want your portfolio to survive in an inflationary world, a broad index-tracker fund won’t cut it. You need to be a lot more selective than that…
19 Oct 2021

Most Popular

Properties for sale for around £1m
Houses for sale

Properties for sale for around £1m

From a stone-built farmhouse in the Snowdonia National Park, to a Victorian terraced house close to London’s Regent’s Canal, eight of the best propert…
15 Oct 2021
How to invest as we move to a hydrogen economy
Energy

How to invest as we move to a hydrogen economy

The government has started to roll out its plans for switching us over from fossil fuels to hydrogen and renewable energy. Should investors buy in? St…
8 Oct 2021
Emerging markets: the Brics never lived up to their promise – but is now the time to buy?
Emerging markets

Emerging markets: the Brics never lived up to their promise – but is now the time to buy?

Twenty years ago hopes were high for Brazil, Russia, India and China – the “Brics” emerging-market economies. But only China has beaten expectations. …
18 Oct 2021