The%20Use%20Of%20Exchange%20Traded%20Funds%20(ETFs)%20To%20Encourage%20Investment%20And%20Stockmarket%20Development

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The Use Of Exchange Traded Funds (ETFs) To
Encourage Investment And Stockmarket Development
Presentation toAfrica Investment Climate
Conference5 October 2006
MIKE BROWNGeneral ManagerSatrix Managers
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Agenda

• What are Exchange Traded Funds (ETFs)?
• What are their features and benefits?
• ETFs in South Africa.
• How do ETFs help in development of stockmarkets.
• Possible ETF products for African stockmarkets.

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Exchange Traded Funds (ETFs)

• An ETF is an entire index structured so it can
  trade like a share.

Buy one share and own the market
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What Are Exchange Traded Funds?

• Portfolios which trade on stock exchanges.
• About 400 Index ETFs now listed around the world
  with US360 billion under management.
• Being listed means that
• ETFs can trade all day to take advantage of intra
  day price movements
• Settlement, clearing, registration guarantee of
  trade, takes place through normal market
  mechanisms.
• Price transparency, liquidity and record are
  ensured.

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Benefits of ETFs

• Low costs.

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Cost Comparison Between Active and Passively
Managed Funds
AVERAGE EXPENSE RATIO AVERAGE EXPENSE RATIO
United States Basis Points (bps)
Exchange Traded Funds
Large cap ETFs 28
All equity ETFs 40
International equity ETFs 52
Mutual Funds
Actively managed domestic equity 115
Actively managed international equity 189
AVERAGE EXPENSE RATIO AVERAGE EXPENSE RATIO
Europe Basis Points (bps)
Exchange Traded Funds
European exposure 45
Global exposure 47
Mutual Funds
Average equity fund 162
Average index fund 120
Source Morgan Stanley, International Equity
(January 2006)
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Benefits of ETFs

• Low costs.

• Increase liquidity.

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Satrix 40 Annual Trading Statistics
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Benefits of ETFs (continued)

• Provide low cost, efficient vehicle for passive
  (index) investment.
• Over time, net of costs, 70 or more of active
  managers fail to outperform index tracker funds.
• Why?
• Indices include only blue chip large market
  capitalisation companies that dominate trading in
  the markets.
• Main indices usually provide all the portfolio
  diversification and spread required by investors.
• Index trackers give perfect beta of one.
• Low costs do not erode investment performance.
• ETFs are typically highly tradable and offer
  instant liquidity through market makers.

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ETFs In South Africa

• Special Exchange Traded Fund sector on the JSE
  Main Board.
• Nine ETFs currently listed on JSE.
• Include
• Satrix 5 securities (local indices)
• Itrix - 2 securities (foreign indices)
• Absa Rand Gold Price index Rand Hedge basket
• Market capitalisation R13,2 billion
• Turnover, particularly in Satrix, is very good.

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Satrix Securities Listed on the JSE
Product Portfolio Features Performance Return per annum Performance Return per annum
Product Portfolio Features 1 Year 3 Years
Satrix 40 JSE Top 40 companies Diversified portfolio of the top 40 companies on the JSE. 55,0 39,9
Satrix Fini JSE Top 15 companies Portfolio of major JSE banks and insurance companies. 35,8 36,4
Satrix Indi JSE Top 25 companies Industrial companies are major beneficiaries of strong domestic economic growth. 33,6 41,1
Satrix Resi JSE Top 20 mining and commodity stocks Participate in the global commodity price boom with strong rand hedge qualities. n/a n/a
Satrix Swix Top 40 JSE Adjusted Top 40 index A smoothed out and less volatile index of the JSE top 40 shares. n/a n/a
Source Unit Trust Survey (June 2006)
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How ETFs Help in Stockmarket Development?

• They attract the following investors
• Hedge funds who prefer to invest in an index
  rather than single shares.
• Facilitate hedging ETFs can be shorted like any
  listed share.
• Arbitrage between spot and futures indices is
  encouraged.
• Provide platform for derivative and structured
  products.
• Appeal to country investors.

Continued/
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How ETFs Help in Stockmarket Development?
(continued)

• They bring in retail and first time investors.
• Low costs
• Easy to understand
• Transparent
• Can be transacted through low cost platforms,
  such as the Satrix Investment Plan.

Provide access to the equity market.
Continued/
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How ETFs Help in Stockmarket Development?
(continued)

• ETFs add liquidity and encourage greater trading
  in the underlying index stocks.
• The asset manager of the ETF has to buy
  securities in the underlying index stocks as he
  has to exactly replicate the index. This may
  enable the index companies to issue more
  securities and raise capital.
• Create competition for companies to join the main
  market index.

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What ETF Products Can Be Used For African
Stockmarket Development?

• Develop ETFs for the main indices of individual
  African stockmarkets.
• Need
• Good liquidity in the underlying index stocks
• Enabling legislation for effective operation of a
  collective investment, or discretionary trust
  structure.
• Participation of local stockbroking and
  investment banking community.
• Helps to have futures or forward OTCs trading on
  the index being tracked.
• Active participation (or ownership) by the
  stockmarket on which listing takes place.

Continued/
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What ETF Products Can Be Used For African
Stockmarket Development?

• Pan African Index.
• 2 to 3 of the top companies from each of the main
  African stockmarkets
• Need
• Compiler of the index.
• ETF can trade on each of the contributing
  stockmarkets and/or on separate Pan African
  platform
• Settlement, transfer and registration systems
  need to be homogenized or integrated.
• Management company.

Continued/
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What ETF Products Can Be Used For African
Stockmarket Development?

• Index of African companies listed on the JSE.
• D441 exchange control circular allows for inward
  listing of African companies on the JSE.
• Also allows for increased foreign exchange
  allowance for SA institutions that invest in
  African companies.
• Need
• A lot more African companies to list on the JSE.
• Compilation of an index of such African JSE
  companies.