ETFs arrive

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Exchange traded funds could give investors the liquidity of shares with the diversity benefits of index-linked funds.

Exchange traded funds enable cost effective asset allocation and could open up regional markets to more foreign investment.

Prominent figures from stock exchanges, index providers and asset managers have been calling for the Middle East to develop exchange-traded funds (ETFs) for years, but the signs are that it could be about to happen.

Muscat Securities Market (MSM) held a conference on the instruments last month, while the Taiwan Stock Exchange told this magazine that it could launch dual-listed ETFs with the Abu Dhabi Securities Market (ADSM) by March of this year.

ETFs are open-ended index funds that trade on exchanges like shares - meaning that they can be entered and exited much more freely than traditional funds. As a kind of hybrid between a fund and a share, ETFs have been popular with a range of investors.

"It's a tool that has been embraced by those active and passive institutional investors as well as by retail," says Deborah Fuhr, managing director, investment strategies, Morgan Stanley.

She says that ETFs are seen as an alternative to futures or other derivatives, and to actively managed stocks, which may not always provide the alpha to justify their management fee.

"ETFs are one of the low cost beta products that you increasingly find people searching for when they want to be able to do tactical asset allocation in a very easy and cost efficient fashion," she says.

"I think the other thing that has been appealing is that you can trade in small sizes with daily liquidity, the annual cost is on average 43 basis points, so it's very cost efficient, and you can trade with multiple brokers."

A diverse range of ETFs are available in other markets. Investors can gain exposure to small, large or mid-cap companies, commodities, Shariah compliant companies and different geographies, sectors and styles.

Inverse ETFs, even use leverage. "If you think the market is going to be down, you can buy an ETF that gives you inverse exposure, so if the market goes down you got the opposite, so you get positive performance," explains Fuhr.

Having met with exchanges in the region, and consulted with the Saudi Stock Exchange on its plans for ETFs, she has seen strong interest for the product.

"I think it's fair to say that most of the exchanges in the region would like to have ETFs - both local products, ETF on the home country, and probably the GCC - as well as looking at cross-listing potentially some of the ETFs that are listed in the US and Europe, so that they could be traded locally by both retail and institutional investors," says Fuhr.

What is more, they could provide an easier way for foreign investors to gain exposure to Middle East exchanges, which have not always made it easy for non-nationals to invest.

"I think you're finding that there is growing interest to invest and it's very difficult to find brokers who can trade across all the exchanges and can buy the shares that people really want to invest in," she says.

The instruments could also increase liquidity on the regional exchanges.

"ETFs have two ways of trading - they can trade like shares and if someone has a large order, brokers such as Morgan Stanley are in legal agreement to let them do what's called creation, where we can actually create the underlying portfolio from the ETF, trade it, deliver it to the custodian and the ETF gets bigger," says Fuhr.

Many of the region's bourses would need to develop their legal and regulatory frameworks to allow ETFs to be listed, but Fuhr expects at least one exchange in this part of the world to launch the product this year.

"The market that is farthest along would be Egypt," she says.

"They finished the regulations a while ago and sent out a request for proposals from interested parties who want to launch an ETF on the CASE30."

She says the first CASE ETF will be launched "this year, for sure".

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