Nicolas Faller, Union Bancaire Privée
Smart beta funds globally held $658.4bn in assets at the end of 2017, according to ETFGI, 32.3% more than at the end of 2016.
In Asia, compared to their global peers, smart beta ETF assets are relatively small, but the products grew AUM around 70% in 2017, outpacing other regions, data from Morningstar shows.
Despite the strong growth, Faller, who is based in Zurich, told FSA during a recent trip to Hong Kong that he believes smart beta products may not reach the same stature as traditional pure active and passive strategies.
“I am not so convinced by the idea of smart beta products going mainstream for retail or private clients,” he said.
He said the major obstacle for such products to be widely accepted is the complexity of investment process and the underlying algorithmic principles.
“Smart-beta products are not always easy to understand by advisors and private bankers,” he continued. “If it’s not well understood by the professionals, it’s as difficult to explain to their retail and private clients.”
However, he said it would make sense for sophisticated pension funds and insurance companies with rather long-term investment perspective to use smart beta products to get exposure to “more than a passive strategy without the risk of the active”.
Smart beta and fixed income
Smart beta funds are not necessarily the solution to asset classes with high correlation among peer funds, such as fixed income.
He added that fixed income products globally tend to be similar and it is more difficult to do thematic products with bonds.
“The value of a bond product is to give you a better yield than a bank deposit. The portfolio will have to mitigate the credit and duration risk and give market upside, so it requires a relatively wide and global allocation.
“Fixed income products have a different story compared with equity space, where more thematic products are available. The equity universe is much larger while the correlation among different stock markets are much lower.
“The correlation between a corporate bond in emerging Asia and in the US is probably around 80% because the level of interest rates is driving a lot of the markets. However, the correlation between the [equity] consumer sector in Asia and the utility sector in the US is probably no more than 10-15%,” he explained.
Additionally, he said that investors may find absolute return strategy has lower correlation than that of other fixed income products.
Between pure active and passive products, he said there is always a demand for both as they are serving different purposes in a client’s portfolio. While the major central banks globally have gradually reduced their asset buying programmes, market liquidity will continue to shrink, leading to a more volatile investment environment. Under this market backdrop, active management should in theory work better than passive strategies.