Russian Equity Funds, OEICs vs ETFs, Taleb Barbell strategy, ETF closures & PMI indices explained

Here is a sample of the questions that were discussed In this week’s PensionCraft live Q&A call with Ramin. If you want to find out the full answers to these questions or ask some for yourself, then you can subscribe on Patreon here

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Which ETFs offer the best route into the Russian market?

  • Russian ETFs tend to be expensive, none of them cost less than 0.59% per year ongoing charges
  • The risk-return plot below for prices since 2012 (it doesn't include income) shows how the Russian ETFs compare to the LifeStrategy 20 to LifeStrategy 100 funds.

  • The Scooby Doo tree showing the correlation relationships between the funds is as follows

Please explain the merits of OEICS versus ETFs for index investing

  • OEICs (Open Ended Investment Companies, called mutual funds in the US) and Exchange Traded Funds are both open-ended
  • As more people buy the fund it buys more assets and creates more “units”
  • https://www.vanguard.co.uk/documents/adv/literature/etfs-adviser-guide.pdf
  • Creation and redemption process for ETFs
    • APs contract with the issuer (the ETF fund manager) to create and redeem ETF securities in large ‘creation units’.
    • Only APs can create or redeem ETF shares with the issuer.
    • Creation
      • The AP applies for new ETF securities to be created in multiples of creation units (typically this is 100,000 shares).
      • The AP delivers the basket of securities or cash equivalent specified by the issuer.
      • On settlement, the AP then has inventory of ETF securities that can be sold onto the stock exchange (the secondary market).
    • Redemption
      • The AP applies to redeem shares of the ETF in multiples of creation units
      • The AP receives a basket of securities or cash equivalent
      • The AP sells the basket of securities on the exchange

OEIC

ETF

Traded directly with the fund (via broker)

Traded on a stock exchange such as the London Stock Exchange (via broker)

One price produced at the end of each day linked directly to Net Asset Value.  You pay the forward price which is produced at 12 pm each day. If you purchase after this time you will pay the 12 pm price the next day which is unknown at the time of purchase.

Price updated minute-by-minute while the stock exchange is open. You can trade at the price you see. You can also place stop losses, limit orders and open orders as you could with stocks. Price can deviate from NAV during periods of market stress. Authorised participants can arbitrage this difference away risk-free during normal times.

Usually buys physical assets

Can be synthetically replicated with a future or a total return swap

No commissions on trades but pay stamp duty of 0.5%

Have to pay commission on trades but no stamp duty

No bid-offer spread

Small bid-offer spreads due to high liquidity

Often active

Usually passive

Can you explain the Purchasing Managers Indexes where to find the relevant information for each index and how important you think they are when it comes to investing?

  • This is survey-based so it’s "soft" data (compared with GDP which is "hard" data)
    • Thousands of businesses are asked to regularly fill out a questionnaire
    • They’re diffusion indices such that > 50 signals improvement or expansion
    • Less than 50 indicates deterioration or contraction
  • A lot of investment is about finding the inflection points when a trend (such as increasing GDP growth or falling GDP growth) reverses and PMI indices can help spot these reversals but in practice you would look at many other indicators

What are the indicators (e.g. liquidity) that an ETF is likely to be closed?

  • Unless it is a new fund if the assets under management are below around £20 million it means it is not economically viable to the fund manager to continue with it. e.g. 
    • 1% of 20 million = 10,000
    • 0.01% of 20 million = 100
  • Larger funds may also close if they can't compete with cheaper competitors following the same index.
  • SeekingAlpha publishes a monthly deathwatch for ETFs (here)

Any thoughts on Taleb's Barbell strategy and how retail investors in the UK can practically implement it?

  • Taleb is the author of “Fooled by Randomness” and “The Black Swan: The Impact of the Highly Improbable”
  • The idea of a barbell strategy is to hold both extremes of the risk spectrum e.g. US Treasuries and out of the money call options
  • His strategy is to put 85–90% of his money into the safe investments and the rest on the riskiest bets
  • How extreme and safe those investments are is a matter of choice e.g.
    • UK Gilts and Emerging Market equity
    • Options are generally not available to UK retail investors (for good reason!) as they incorporate leverage and you’re quite likely to lose your entire investment
  • Would you be happy earning almost nothing most of the time then very occasionally making large gains (the Barbell Strategy) or making steady gains most of the time with the occasional loss (a diversified portfolio)?


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November 26, 2019