Asia not really ready for ETFs

"Of all the Asian markets for exchange-traded funds, Korea is the most promising," says Robert Haber, the San Francisco-based managing director and Asia ex-Japan CEO at Barclays Global Investors. Given the high profile of equity ETFs in Hong Kong, Taiwan and now China, that seems an odd statement. The Hong Kong Tracker Fund has been very popular since its inception in 1999 and has $3,677 million of assets. The Taiwan Top 50 Tracker Fund (TTT) has grown rapidly since its launch in 2003, with $1,343 million of assets.

But Korea, where regulators allowed different managers to list ETFs based on the same index, doesn't appear to have been as successful, particularly when keeping market capitalization in mind: the top two funds, Samsung Investment Trust's Kodex200 and LG Investment Trust Management's Kosef, both of which follow the Kospi 200 index, have only asset sizes of $419 million and $99 million, respectively.

Is this sour grapes? The TraHK, after all, is managed by BGI rival State Street Global Advisors, which has also served as advisor to Polaris and to China Asset Management (ChinaAMC), which has just launched China's first domestic ETF.

From BGI's perspective, however, the Korean examples are the only ones in which ETFs weren't supported by the government. The launch of Hong Kong's Tracker Fund, for example, was based on the sale of stocks bought by the government the previous year. State-owned institutions likewise have supported TTT, which is managed by Polaris International Securities Investment Trust.

"Both Samsung and LG have offerings that are viable and not seeded by the government," Haber says, although he acknowledges that they face stiff competition from heavy retail participation in the equity futures market. For now he doesn't see additional equity ETFs in Korea because there aren't available indices, although there is the potential for fixed-income ETFs or the listing of foreign ETFs on the Korean Stock Exchange. "But we're at least a year away from that," he adds.

BGI had advised Samsung while SSgA has advised LG on how to manage ETFs.

Haber says that BGI is increasingly marketing itself as an active fund manager. "Asian institutional investors need to look at their strategic asset allocation," he says. "We've been introducing quant products, hedge funds and more active products. Passive has always been a hard sell in Asia, partly because investors have beaten local indices, and partly because asset pools in Asia are still small. Only the biggest institutions are passive-minded. Indexing is a mature product so now it's about risk-controlled active management - a step up from enhanced indexing."

There remains little demand for ETFs in Asia, Haber argues. For example, in the United States, ETF demand has been driven by widespread familiarity with indexing, assisted by the world's most efficient capital market; commonplace exposure via 401(k) and IRA accounts; a desire by American investors to get out of scandal-tinted active mutual funds; and ease of use prized by independent financial planners, which remain powerful distribution channels in the US. Those conditions don't exist in Asia, which is one reason why cross-listings of successful US-based ETFs have not been successes here. Like its rival SSgA, BGI has authorized some of its ETFs in Hong Kong to be eligible in the Mandatory Provident Fund regime, but they face distribution hurdles in part because of rules about how much of one stock an underlying fund may hold - a problem for ETFs tracking market indices based on market capitalization.

Regulatory problems crop up in other markets, particularly China, which has seen one ETF launched by ChinaAMC and another one slated to be managed by Huaan Fund Management in Shanghai, with the backing of SSgA and Bank of New York, respectively. But these are operating without the usual infrastructure such as stock lending, shorting or futures, and are less distinguishable from mutual funds than in other markets.

On the other hand, BGI sees huge demand by international investors for ETFs providing exposure to markets such as China, which can be hard to access, and for which many global investors just want basic exposure, because China remains such a small part of the MSCI and other global indices. BGI now says it runs $1.3 billion across four ETFs covering A shares, H shares and red chips.

"More investor education is needed in Asia before ETFs become a viable tool like they are in the US," Haber says.