Passive vs « semi-active » ETFs?

Today in Le Temps journal (in French, some articles behind a paywall) there is a list of articles on ETFs, ESG investing written by economics journalists and asset managers.

Apart from the jargon to drown you in fancy terms and the usual mantra on ETFs vs. active managers who are here to help you, they introduce the concept of « active or semi-active » ETFs. This is new to me :wink:. I’m not sure if it’s something to follow, or just some rebranding to sneak in some fees to the investors interested in ETFs? The article by VZ in French or in German makes me think the latter.

Thoughts?

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Hi thc!

I’m not touching active ETFs. The point of ETFs is their transparency, and this is what allows arbitrage by market makers. If I need an active fund, I’ll take a mutual fund to make sure I pay the fair price. I only have ETFs for highly transparent and highly liquid markets. I have in mind the 2010 flash crash.

Is it some rebranding? Maybe

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Just a side note: ETF just means Exchange traded funds, so the only difference between a mutual fund and a ETF is that you can access it easily via the stock market which has certain Advantages/disadvantages (buy/sell at all open time, no minimum deposit rules etc., but for instance high spread for illiquid ones)

So an ETF can be actually actively managed.

It also could be they are talking about factor-investing, where instead of simple market cap value like most ETFs, theses ones choose/overweight stocks based on certain factors which they promise give a higher return are choosen to select the companies in the ETF.

Will they give higher returns ? no idea, only the future can tell

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Maybe they’re taking about smart beta (basically factors) ETFs?

I agree. What I mean is that for mutual funds, their daily price is computed every day based on what’s inside (primary market). ETFs are priced by supply and demand on a secondary market.

The mechanism that makes sure that ETF prices match their actual value is based on market makers. Market makers can get shares of ETFs (creation units) by providing a basket that reproduces the underlying of the ETF. The way it works is that if the market price is too low, market makers will buy the ETF, exchange it for the basket, sell the basket and make a profit. If the market price is too high, market makers will buy the basket, exchange it for ETF shares and sell them on the market.

This only works if what is inside the ETF is completely transparently known and priced. That’s why I only use ETFs when I know exactly what’s inside and otherwise use mutual funds.

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Apparently there are techniques that are supposed to work for transparent/semi-transparent ETFs: https://www.ft.com/content/02e9d7e8-6516-11ea-abcc-910c5b38d9ed

https://www.klgates.com/Precidian-and-ActiveShares-ETFs-The-Dawn-of-a-New-Era-for-Active-Management-04-11-2019 explains the ActiveShares approach.

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I’d be interested in semi-active bonds etf. E.g. where the bonds are weighted by yield per risk or something like that.

What’s active about that? That still seems passive (assuming risk is equal to the rating), anyone could define such an index if there’s a market for it.

The definition of an index made from “arbitrary” rules would be the active part for me. I.e. yield / risk could turn out to be a completely stupid measure that I came up with.

Maybe a Risk-aware Bond index would fit that bill? (And yes, you can get ETFs on that)

Thanks @nabalzbhf! These are interesting links. It seems they do have a mechanism, but I still wonder about the feasibility of computing the VIIV in real time in case some spreads widen or if even just a few positions become illiquid. Not sure how well this would hold in a very volatile market.

I remember back in March that some bond ETFs (bonds are less liquid than stocks) had serious issues and their market price were quite far away from what was inside for a while. I was quite happy to have my bonds only in mutual funds especially because I needed to sell them (to rebalance into stocks) and it seems bond ETFs were undervalued. I would have lost money.

Actually there’s an argument that the bond etfs are great and improved liquidity. (was mentioned in today’s letemps focused in etfs: https://www.letemps.ch/economie/etf-nouveaux-sauveurs-finance but see also https://www.ft.com/content/54e626b8-c951-43c5-85d6-84498f91f16e for example)

What happened is not that the ETF wasn’t trading at NAV, it actually was trading closer to the “correct” price (most of the underlying are harder to trade), by having people trade on the bond etf, it improves the efficiency of the market (and it seems like regulators liked that feature, as it removes some stress from the market, imagine if all those people had to do bunch of OTC trades instead?)

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FYI an index is also arbitrary. In practice you could create the index of companies that @Double_A likes :slight_smile:

(ESG indices are kinda like that :wink: )

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Yes, I like your point!

Thanks all for your replies - very much appreciated.

Agree with you @nabalzbhf. In theory an index is clean and transparent, some are actually slightly tweaked on the minute details of the list of stocks represented in the list.

In any case buying super-broad ETFs if fine by me… I just wanted to hear other views on today’s series of articles.

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