* Flows to European ETFs hold firm even as correlations
* Assets under management at a record: reut.rs/2kam1Py
* Availability of low-cost, flexible options underpin ETF
* Germany, Spain country ETFs in demand
By Kit Rees
LONDON, Feb 10 European investors are piling
into exchange-traded funds, favouring those that mimic active
fund managers, in a market where traditional trading
relationships between assets are breaking down.
Investment in ETFs, securities which track an index or
basket of assets, rose to more than half a trillion euros at the
end of last year, a record. A combination of low costs and
flexibility kept investors hooked even though this break-down of
so-called correlations should favour actively-managed mutual
For fund managers, who have had to deal with risk-on,
risk-off central bank-dominated markets since 2009, a return to
fundamentals since mid-2016 as stocks increasingly move
independently of each other is a welcome departure.
However, rather than a rush of money into mutual funds,
flows into ETFs have held firm, Thomson Reuters Lipper data
High fees coupled with persistent underperformance at
traditional funds and a nimbler set of low-cost ETF offerings
that slice and dice markets to mirror some of the traits of
"active" fund management, are among the main reasons that
cost-conscious asset-allocators remain hooked, market
Some of last year's most popular European ETFs included
those that target stocks trading at below-average valuations,
some that pick stocks with minimal intra-day price swings and
others that offer currency hedges and can protect investors from
seeing stock gains wiped out by currency volatility.
Since most of these decisions are made automatically by
algorithms, index providers and ETFs can offer these features to
investors at much lower costs than the traditional fund
A typical European equity ETF's fee margins are half those
of traditional fund management groups at around 29 basis points,
according to Goldman Sachs analysis.
"We try and create a diversified portfolio but spread our
risk right across the globe and right across different asset
classes. And the most cost-effective way of doing that is
through index funds," Justin Onuekwusi, multi-asset fund manager
at Legal & General Investment Management, said.
So far this year investors have pumped about $35 billion
into global equities according to latest data from Bank of
America Merrill Lynch. However, that is largely due to more than
$50 billion via ETFs while traditional funds have seen $17.5
billion pulled out.
The rally in equity markets since last summer has favoured
banks, resources and industrial stocks at the expense of
telecoms, healthcare and utilities leading to wide variation in
returns between sectors.
In Europe, where political risk has increasingly become a
dominant theme in the past year, different countries, currencies
and politics provide more scope for discerning investors to take
advantage of markets overshooting one way or the other.
Goldman Sachs says "country risk" has picked up again and
could increase further ahead of elections and if concerns
resurface over the European Central Bank cutting back on its
Since the introduction of the euro, taking a view on sectors
rather than countries has been more important in Europe, Goldman
says, apart from brief periods of the euro zone sovereign debt
crisis when lines were drawn between the periphery and the core.
With a busy election year ahead as well as uncertainty over
the UK's Brexit negotiations, country risk could become a factor
again and should benefit discerning investors over broad index
However, European ETFs that give investors exposure to
countries, sectors and other specialized investment styles is
Lipper data shows that ETFs focused on Germany, Spain,
Europe excluding the UK have been among the most popular among
investors seeking to pump money into Europe but avoid the
pitfalls of investing too broadly.
Andrew Herberts, head of private client investment
management (UK) at Thomas Miller Investment, said his firm has
started to go a little more into individual countries in Europe,
and has moved into a tracker for Germany's DAX index
over the last month.
"If we've done the work, and we like Germany for a variety
of reasons, why should we be hostage to what an active manager
thinks?" Herberts said, adding that they were taking money out
of a euro zone tracker and moving it into a DAX tracker over the
past month or so.
"It can mean that you can be much more precise in how you
target particular areas," Herberts said.
Other popular offerings such as ETFs focused on
low-volatility stocks, dividends or those with inbuilt currency
hedges have also seen popularity soar.
A lot of an active manager's outperformance or
underperformance over time can be explained by "style biases,"
or mandates, under which the fund operates, such as value,
growth or income, Legal & General Investment Management's
"A number of smart beta strategies can effectively emulate -
or basically copy - those style biases. So it gives you those
style biases ... in a more cost-effective way."
(Editing by Vikram Subhedar and Toby Chopra)