The Inner Workings of an ETF Manager · Ilan Israelstam

by birtanpublished on August 6, 2020

Markets speculation and risk this is the chaplet traders podcast hosted by Erin Fifield what's up and welcome ladies and gents this is episode 195 and I'm joined by Ilan Israel stem Elance a co-founder of Australian ETF manager beta shares and a principal at VC firm

Apex Capital Partners beta shares first began trading in 2010 and currently it manages approximately 10 billion dollars in assets across 61 funds all of which trade on the Australian Securities Exchange or ASX my idea of asking Ilan

To be on the podcast was really just to learn a bit more about how ETF managers operate and to delve into some of the technical aspects of ETFs – so this isn't supposed to be like an intro to ETF's

Type of episode hopefully you'll gain some deeper insight included in the topics which had about our risks for ETF managers how ETF managers make money the important role of designated market makers how short and leveraged ETFs

Trade as intended tips for investing in ETFs and researchable ideas for trading in ETFs now half the say it was kind of funny listening back to this interview because we reference beta shares oil ETF several times and as we recorded this

April 15th it was before crude oil futures went negative so following this pretty significant event beta shares oil ETF actually took on a similar path to us o us o been the largest ETF in the US with oil exposure that most of you are

Probably familiar with and it took about a similar path in the sense that beta shares also changed its underlying strategy it went from holding the front contract to holding contracts further out the

Curve in order to lessen the risk of the fund blowing up so in hindsight perhaps an oil ETF was not the best example to use but nevertheless if you are interested to know a bit more about this I've included an article link in

The show notes plus Elan also shared with me several articles that expand on a whole bunch of the topics that we cover on this episode – all of which can be found in the show notes at chat with traders comm / one-nine-five and that is

All folks here is elan israel stem for episode 195 i saw an article pop up in my twitter feed today that beta shares the the bear etf that you offer had the highest volume no what was it the highest yeah the most popular traded etf

During march that's right yeah that's right it's pretty uh i don't know i was gonna say that's pretty cool but no look at it no it's quite cool it had actually traded more than Telstra did really yeah that's crazy

Incredible huh would rather walk what were the numbers around it it's about two billion two billion dollars traded for the month of March so on some days it was trading more than Telstra you know regularly so yeah that's world at

Big numbers isn't it before beta shares if I understand correctly you founded or you a co-founder in beta shares around 2010 what were you doing before this yeah so before I got involved in starting beta shares I was actually in

Management consulting so I was working for a company called the Boston Consulting Group or BCG it's a large strategy consulting firm that typically does work for CEO level people in organizations usually quite large

Organizations helping them think through big strategic problems such as you know it should we enter this country how do we probably how do we properly go about launching this particular product and I was spending a lot of my time and the

Financial services space but before that I'd always be an entrepreneurial so I've always been doing entrepreneurial activities throughout my life the wayback probably a young kid and I remember my brother and I set up a

Little mini golf stand in our backyard for the neighborhood kids to come and play and we charged them you know I think 10 cents or whatever a time so we have an entrepreneurial component I spent some time doing other bits and

Pieces and of my own businesses I said I went to China actually and spent a whole lot of time there where I set up a media oriented business but then that particular business was built right about the time of the other large crisis

We're busy recording this during the coronavirus crisis but the that business of mine was built during the other large crisis the global financial crisis of GFC and so just at the time when I was about to essentially close the deal on a

Very large amount of financing equity financing the global financial crisis hit a neck or pulled from under me which was not so fun but that experience was very pretty instructive and helped me to think about all sorts of entrepreneurial

Activities and so when I came back to Australia after BCG and after the Chinese experience I connected up with a few friends that I'd known from University and we started working together and that was the genesis of you

Know of Peter shares and I also still maintain an involvement in an investment company called apex Capital Partners which is essentially a venture capital style company that provides funding to early-stage companies in and around the

Financial services space as well so yeah financial services is my main has always been my main activity and so with those two activities a beta shares was born actually out of the out of the global financial crisis in many ways where

Things were changing a lot of me in the industry the wealth management industry and we saw the opportunity in what is known as exchange-traded funds which I'm sure we'll talk more about and

Exchange-traded funds were were growing very fast over in the US but in Australia when we were when we were looking at starting beta shares there was a very small very tiny little market I think it had about five billion

Dollars in total and we decided that there was an opportunity to build out an Australian folk specialist exchange-traded funds business really tailored to the needs of Australian investors and focus on those

Needs our competitors are a very large global financial institutions who are incredible businesses but don't necessarily focus only on Australia and the needs of ossie investors so people thought there was an opportunity we'd

Really like the space the ETF space it was a very fast-growing industry for a number of reasons the writing was on the wall for that to continue and we thought we had the chops to be able to build out a business and yes since then it's been

Um it's been a good really grow great growth pathway over the last about nine years we started our first fund at the very end of 2010 so it's about nine nine and a half years now since we started better shows yeah I think you did will

To foresee that the the rise of popularity and ETFs would come to fruition it seems like such a big thing to take on like where do you even begin when you decide that you're going to launch an ETF management company well

Just like anything you you know you research the market you understand what's involved in starting one up you obviously have to have faith in yourself that you or your partner's have got the abilities to actually build out this

Business and that's important you know because you it is it is quite a technical space it is one that in button does require a fair bit of knowledge about the regulatory environment about things like the way in which funds are

Bought and sold and the way in which you get your funds exposed to investors of all sorts whether they be end investors or advisor investors etc so we my partners and I had had some background in financial services and wasn't the

First time we've been looking at the space so that helped a lot and then you when you think about actually setting up the business you think about what sort of business you want to be what is your sustainable competitive advantage and as

I said for us we thought that one of our big competitive advantages was that we were going to be specialists and we were going to only focus on the small country of Australia because for the other players in our space that's very small

Part of their whole map if you think about them looking at their global portfolio Australia is going to be a tiny part of it but for us we knew the space was big so granulation industry was large the

Self-managed superannuation industry was growing financial advisors I'll be part of the space here as well and so we looked at all those things and and thought that this is all coming together very nicely for what looks to be

Something that will there'll be a good business and then you know it's all about thinking about the products themselves so you know which product should we launch but we were lucky because when we launched the business

There really weren't too many options out there for ETS it was probably 20 or so now there's over 200 so we had a huge amount of space to fill and we ended up doing quite well by building out a pretty big range of funds and we've now

Got 61 actually look at 61 ETFs and we're managing just over ten billion dollars now so that was a great path and a lot of it came back to the usual thing thinking about your core competencies thinking about what your strengths are

At a personal level and thinking about where the markets headed and where it's you know where it is now where it might be headed and all those things were very positive for the ETF industry and I think that's coming true so to put

Numbers to it when we started BB shares there was as I mentioned five billion dollars in assets invested in ETFs in Australia is now about sixty billion so and we've been lucky to be taking a good share of that growth every year since

We've been in the market and those 61 ATF's which you've issued they all trading on the ASX that's right yeah so all of our funds are bought and sold like a share on the ASX and so that's what an ETF is in ETF is there's a

Managed fund that can be bought and sold like an ETF the ETF stands for exchange-traded fund so can you bought and sold like a like a share that means that you know you don't have to fill out any paperwork as you would any a

Traditional managed fund there's no minimum investment levied by by us and so you can buy and sell it at any time during the trading day and ETF now that we're onto the topic are typically index tracking funds not always that they're

Typically index tracking funds so they typically aim to trap and index and those index indices can be of many many shapes and sizes but no simple example you want to get exposure to the technology sector and they've won most

People would have heard of the Nasdaq 100 Nasdaq 100 is the largest 100 companies that are traded on the Nasdaq Stock Exchange in the US and they involve all the large global technology stocks at Google it's now called

Alphabet but Google Microsoft Netflix Amazon Apple so instead of going ahead and buying those individual securities you could buy an index tracking fund and that's what an ETF is so we have got the Nasdaq 100 ETF for example the ndq we

Buy and sell it using the ASX code mdq and that gives you exposure to those technology stocks so it allows you to to get exposure to what you want as simply as buying a share but not necessarily only getting a single shares exposure

And typically because they are index tracking funds they're much lower cost than traditional managed funds that you would have heard about that are managed by these star investment pickers who you know pick pick stock etc we typically

Just try to manage to an index right so I obviously have a lot of questions around this a lot of maybe technical questions around your role as now let me just get this correct before we proceed too much further calling you an ETF

Manager is that the right term like what is beatta shares exactly like it's the right terminology yeah that's right so we are a fund manager specialize in exchange-traded funds or ETS that's the exact terminology okay cool so let's get

Started on this let's let's get down into the nitty-gritty one of the first things I wanted to bring up with you around this is talking a little bit about risk so your role as an ETF manager and I guess you can sort of

Partially speak for any ETF manager really what risks are you vulnerable to in the position of a manager yeah so to clarify again we are the fund manager of the exchange-traded funds we manage 61 of them at the moment they are a Walsh

Exercises so they're not only share or inter or equities are entered ETS we've got bond ETS we've got cash ETFs we've got shares that you've got ETF that's got ETS that aim to provide your exposure to the gold price

We've got ETF to provide exposure to the crude oil futures price we've got funds that are aimed to actually go up when the market comes down which are the short the short funds that we have so that's our role our role is to is to

Allow investors we essentially are creating investment tools for investors to basically back their view or take a view on whatever it is that we're providing that exposure to so what we don't aim to do unlike perhaps other

Fund managers who have come on your show or fun managers that your listeners would be familiar with we don't try to outperform a particular index like the asx200 necessarily we we we as the fund we as the ETF provider are the ones that

Are pulling together these investment products for you to use for your own portfolios so in terms of risks to be honest there's no specific extra risks that we would be exposed to there's an etf manager above and beyond the risk of

Any other fund manager and for that matter as an investor in ETF there's also no extra risk that you take on investing at an ETF beyond the risk you take on investing in in the ETF itself or fund itself so for us what makes our

Business tick is is the funds on the management so we get paid a very you know often a very modest fee for every dollar that we have under management that's what makes our business tick so risk wise for us frankly not a huge

Amount it's all about for the investors the movement in the underlying investments which will cause the risks so of course you know if you choose to track to invest in products that are very volatile you know where the

Underlying index is very volatile or for example now take for example the current market room recording this in the middle of April 2020 the current market the crude the crude oil world is going nuts you know oil will oil prices was below

$20 at one point so that's a highly volatile so therefore you're going to have risk on that particular investment but simply that's the investment choice you have made or for example if we use geared some of the geared funds we have

You get much more risk associated with being in a geared position but but no there's no additional risk as such that we are response for although we are vulnerable to and so no I think that that would be the way

I'll answer that question you don't need a look at us any differently from any other fund manager you may have spoken to so am i just rephrase that question a little bit I guess it's a slightly different question actually but as the

Manager to what extent are you concerned about the etf price you know let's just pick on the oil example which you spoke about so obviously as a trader or investor someone who buys you know goes long that ETF which has exposure to oil

If that goes down and price then obviously that's not ideal but as a manager someone like yourself if the the price of that ETF or the price of oil decreases further what sort of position does that put you in a you an advantage

Or disadvantage either way we're not really at an advantage of disadvantage either way ultimately we need to make sure that our funds are providing you as an investor with the objective that we have set out so in the case of the the

Quote crude oil futures product it gives you exposure to the price of crude oil futures if the price of the crude oil futures goes down then it should be expected by the investor and we expect that the share of the unit price of the

ETF price will go down so we the only reason why we would mind as such is because because it means that if the asset value goes down and so too does our assets under management but again that's just the nature of being in the

Market we don't we can't control that so all we can control is making sure that the investor gets what they are after and if they have chosen to invest in oil and the price of oil has fallen then obviously they should not be upset to

Know that the ETF price would fall that's that's what they've signed up for and we need to make sure that we're providing that exposure and then on the other hand we just need to make sure that these products do what they say on

The tin and that's that's what we really spend our time thinking about so and we're not we can't control that we can't control the fact that we want people to invest in our funds and so of course we're out there educating the market and

Whether that be financial advisors or end investors about ETS and clearly we want to get people to invest in in ETFs as an industry but we do that because we think that it is really for most investors a very sound way to get

Started in the investment industry and indeed even if you're not a beginner to trade your view of a particular of a particular exposure okay so if you feel any adverse impacts from this recent market downturn actually we have not had

Any adverse impacts we are we are a very diversified as a business who as mentioned before we've got 61 funds and importantly it's as I said before those funds do not only cover shares so they do not only cover shares as a result of

That we've got bonds we've got cash so what generally that means is that just like having a very diversified portfolio almost independently of the market conditions there will be something that does well and there'll be something that

Does less well our business is like a microcosm of that and so as a result of that we have of course seen pretty significant falls in the value of our share oriented funds but at the same time we've had other products such as

The ones that go up when the market goes down that have rosin risen tremendously in value so we are ultimately in a pretty similar position that we were before this all started and most importantly of all our funds have been

Able to do what they said they were going to do and that's really what we care most about they've been able to give people those exposures whether those exposures are positive or negative they have done what they were sort of

Produced to do in the first place yeah so because the big thing for you is the amount of the assets under management you've probably seen some money shifting out of some products but because you have so many to offer that money flows

Into other products instead of just being pulled out all together that's exactly right and in particular you know given the current market environment I will repeat you know we're in the middle of March 2020 depending on when somebody

Can I'm so listen to this things were you know we're in lockdown mode at the moment and so hopefully by the time somebody comes back to this in a return in a few months time we won't but you know as well in particular we

Have seen people selling out of fixed income and buying into equities people seem to be thinking and particularly with Australian equities actually we've been seeing our Australian equities funds being bought fairly heavily and

Our fixed income funds being sold down okay interesting now just to pick up on that point of assets under management being a big thing for your business can you just explain that a little more like why is

That key to your source of revenue well the way in which an ETF manager earns a living is to take a fee for funds under management so essentially what happens is there's a theory that ranges dramatically depending on what

The particular ETF is where every day out of the unit price there will be a tiny amount that comes out in the form of a fee so that is a way in which an ETF manager exists that is the essentially the reason for for that is

The way in which the revenue line of an ETF manager actually operates so that is why so if there is more funds under management then each of those obviously there'll be more fees to collect if there's less they'll be less

Base to collect so that's that's the reason now how does a trader or an investor actually see those fees well that's the good thing it if they don't it just it just comes out you know if let's say the fee was 10 we call it

Basis points the 010% for the year that means that every day 10 divided by 365 10 basis points divided by 365 being the number of days would come out of that of that unit price so it's pretty much undiscernible to to an investor they

Don't actually have to pay it just comes out of the other unit price every day I'd love to ask you a few questions around the holdings so actually understanding how you manage the underlying assets or underlying

Securities of the ATF's that you provide so as a how do you decide when to add or remove securities from an ETF and maybe it might be helpful for you know these lines of questions if we pick an example

So if we maybe focus on your oil or your gold ETF I presume with your oil or even your gold ETF at my own like sort of 50 different gold companies public publicly traded gold companies as well as maybe some exposure to the actual commodities

Is that right so it's not quite right so essentially again with 61 different funds we have a whole range so the gold we have a gold bullion fund and literally that owns gold bullion it actually owns physical hard gold in a

Vault in London so obviously in that case there's no decisions about taking out any securities it's just it's just gold that's all we're doing we're providing you with exposure to gold's that's called pure au that one you get

Exposure to the price of God that one has a currency hedge over it so you don't have to worry about the price of the US dollars versus the Australian dollar so that is that one it couldn't be more simple in a way we just

Basically buy as much gold as people have invested in the fund we on the other hand to use continue with the theme own goal we do have a gold miners ETF and that's M n RS as it turns out that's the name of the ASX code for that

One so that one does own the world's largest gold miners companies gold mining companies do so 2x Australia fund so it doesn't include Australian gold miners it includes gold miners excluding Australia and that now this will give up

Give us an answer to your question so the as I mentioned before the vast majority of ETF track and index so when we talk about the gold miners ETF and what we are you know what we are buying there we are buying the underlying gold

Mining companies that are part of an index and in that case it's an index that's accredited by by a provider a particular index created by a provider and as that now that's got an index business and they've got a series of

Indices at track gold mining companies and we actually again do not make the decision as to when as to which particular gold miners to buy we track that index in its entirety so what that

Means is that these indices often do what's known as a rebalance so that could be an annual or quarterly or semi-annually balance and that that is the time in which we be given that we are trying to track that index we will

Buy and sell those particular those particular securities to to be in line with the underlying index so maybe a must for example an example that people understand the asx200 the asx200 we've got a fund that has

Exposed to the largest 200 companies on the ASX it's called a 200 so what do we do we basically will buy all those 200 companies that are part of the asx200 index that asx200 index will rebalance itself regularly I believe it might be

Might be quarterly in that particular case what will happen is that companies that are no longer part of the largest 200 companies will will move out of the index companies that have grown and have become piloted 200 index will enter the

Index and we essentially will make those same trades on that day of the rebalancing so those that is the way in which we decide and we don't actually decide I guess the point is there isn't any discretion what goes into that

Particular product so it's it's more like we are acting on a set of rules set by an index provider and we are providing that back to you as an investor so you don't have to rebalance you don't have to go through the list of

The top 200 and decide what you know what is right and what is wrong we will essentially do that for you and we will take care of all that training ok so just so I understand correctly across the 61 products that you offer there's

No real decision making from your part as to what the underlying securities that's right the decision-making on our part on the passive funds I'll come back to one one quick one quick issue on that on the passive funds the decision that

We make is a which product to launch and then which index we should be tracking and at times we will even help create at index but once that once those index rules have been created and it's published by a third party our role and

Most passive funds is to is to provide access to those particular to those particular companies now in saying that we do have a range of active ETFs by which there is somebody making a decision about what to buy and what to

Sell but we do not as it turns out we do not make those decisions ourselves in those cases we have partnered with a third party fund manager and that fund manager will be the one who makes the decisions and that case we are providing

Investors with a actively managed portfolio where somebody is making those decisions and we are providing that to them in the ETF form of the ETF wrapper okay okay understood when you do rebalance that say the asx200 index the

ETF which tracks that when you rebalance your exposure to the underlying securities at the end of each quarter how are you executing those trades like are you trading throughout the day or are you most doing most of this and sort

Of the pre or post market match it would be at the end of the market it will be the end of day I will be trading at typically at the end of day and we've got a portfolio management team whose role is to do that and they would do it

Typically at the at the end of the day and how do you determine how much of the underlying securities to hold on your book so again let's just stick with this example of the asx200 here grant how do you decide you know how many shares of

BHP you need to hold how many shares of REO Westpark etc yeah okay so that is that is a result of what is known as the sort of the index methodology or the index rules so taking the asx200 and so simple nice I think good and simple

Example the way that particular index is set up is that it is based on the market cap of those 200 stocks so essentially it is the largest understocked weighted that we call it weighted by their market cap so that you know we will we will the

Calculation is done to say that I'm looking at today yesterday turns out at CSL because of how everything has been going in the healthcare space is is the largest company on that air six two hundred and let's say that CSL has a ten

Percent weight out of the turn of companies if you look at their market cap CSL represents ten percent of the weight of those total two hundred companies so we will simply just by we know how much we've got invested in our

In our ETF we will simply make sure that we have ten percent of that invested in CSL and then we'll go down the list Commonwealth Bank of Australia seven percent the HP is six percent etc etc so we will essentially be using

The weighting methodology that has been created by the index provider to decide how much to buy and in this case it's just simply market cap in other cases there's a variety of different things you can use to decide those waiting so

You can use an equal weight if you wanted to or you could use weights based upon you know the fundamental values of a company or you could use weights based upon a scoring methodology and again we have 61 different funds we've got a

Variety of different ways and we do that but typically market capital is the most used to used weighting methodology okay so just simple numbers here let's say you had 1 million dollars invested in your asx200 atf at the end of the

Quarter and the guidelines were 10% to be invested in CSL so you would buy $100,000 worth of CSL essentially wanna be yeah that's right that's right okay exactly right yeah that's what we would do and we would know make sure

That that is where it goes at the rebalance date we would make sure that if if tier CSL had a 10% weight we had made sure we had 10% or in that case $100,000 of our portfolio in CSL now during the quarter obviously as its

Trading each day the funds under management for that particular ETF is increasing and decreasing yeah do you then are you then required to increase your holdings throughout the quarter or decrease your holdings throughout the

Quarter yes of course so if the ETF is growing in value we'll have to obviously buy more shares but we're still going to be buying him in their proportions that are there the proportions associated with that

Index wait so so we'll still be following the index weights we'll just be buying more depending on how much my name is so we're always provide we're always buying the same amounts Pro rotted across those parotid across those

Weights and of course the index weights themselves will change day by day because to share prices they're changing all the time so we just make sure we're following that index methodology clear carefully and how often are you I guess

Trading to keep the market cap correct well every time that every time that somebody every time that our ow our ETF grows in value and they can't have I can't happen every day we will be trading more securities to to make sure

That we have got the right amount of percentage weight given out prevailing funds under management okay so it would that just be something you do at the end of the day it is okay go definitely yes it is yes

Yeah okay and what about creating new units or shares like of the ATF how does that bit work yeah great so we haven't spoken about the fact that ETF have got two markets well I'm going to get a little bit technical but I try and keep

It as simple as possible so the when you or an investor and investor is is is looking at their COMSEC screen or the Interactive Brokers or whatever they use to invest that is known as the secondary market so you are essentially out there

Buying and selling units on the so-called secondary market you're buying and selling those units either from another etf investor themselves or from a market maker so market makers are a pretty important part of the ETF

Ecosystem and in many ways you know they are critical to the runner to the running of each yet at the same time part of their success because the market maker is is an institution and I think you may have even if I'm not mistaken

May have spoken to some in the past on your program is an institution who is there to create liquidity or to create buy and sells and depth in the ETF industry and they made their money from taking a tiny

Little clip of every time somebody buys or sells from them so they don't mind whether they're been bought from or sold from they just want to make a tray they're all about volume and so they in order to launch an ETF you have to have

A market maker a dedicated marker maker and typically we have many more than one that is there to be able to be ready to buy and sell from an end investor at any time during the trading day and so as I mentioned before when you are trading as

An etf investor you are buying or selling either from another fellow etf investor or a market maker and that means the reason that's important is that those master makers are there to provide the liquidity to allow you to

Buy and sell anytime you want to in the trading day and they also are there to ensure that the price that you have is you know being bought or sold to is close to the underlying fair value of that etf so to get back to it

That is that that is what we call the secondary market now the primary market is is us we are trading not with end investors but with a small number of large institutional players these are the big guys that you would have heard

Of the Deutsche Bank the morgan stanley's the goldman sachs etc who I've become what are known as authorized participants but essentially there are institutional brokers and they are the ones who will are there to essentially

To essentially create these units create these units from us so let me give you an example if they let's take for example back to that asx200 fund if there is more demand then they're sitting there when when they started the

Fund they created they said to us we would like to become an authorised participant for you and as a result of that we would like to start with let's say ten million dollars of of a two hundred units and we're gonna be on the

Market buying and selling those units throughout the trading day now if there is more demand and there is supply or if the demand is increasing at the end of the day that particular market maker market maker will say to us hey we know

That we're gonna need more of this so we need to create more units we need to create more units they will essentially say we need to create more units here's the money we know there's we know that we gonna

Have this demand cuz we've had a whole lot of investors buying from us here's the money we tweet we will take that money we will go ahead at the end of the day and buy those 200 shares and then we'll essentially pass on a package of

Units in a two hundred back to those marker makers so that the next day they can start trading them on the screen again and so this is what's called an open-ended fund and the reason why it's really important is because it means

That it doesn't matter how many people are buying or selling that doesn't affect the price of the ETF on any given day what matters is just the fact that there is a marker maker there who is able to whenever they want to create

More units and the same time redeem units if for example supply is more than demand or if there's people set a lot of people are selling not buying so that's that is how we essentially grow the ETF that is how we create new units in the

ETF it's sort of invisible in many ways to the end investor all they see is that there's more there's more units on them on issue than they were before before that but from from the perspective of the ETF industry it's a critical part of

The of the proper functioning of the ETFs themselves so the number of units available not available bit which consists of in ATF is that generally always governed by the market maker know the the number of ETFs number of ETF

Units is really governed by the demand the demand so when an ETF launches it may launch with a very small amount of amount of units it could be as little as you know five two or three four or five million dollars we get we get it started

But that next day that very first day if there's a whole lot of trading in that ETF then quite simply that that market maker could go ahead and create more units we take the as I mention before we take those funds we buy the underlying

Shares we pass on these units and then lo and behold there might be double the number of units that second day so that's what drive the number of units outstanding is is essentially demand bar before for that particular for that

Particular exposure you brought up the point about the market makers because that is something I wanted to ask you about could you just speak to that relationship a little bit more like let's say you are launching a

New product I presume one of the things which is very important is having the liquidity do you like contract a market maker to you know support this product or how does that work would yeah that that's essentially it right so first of

All I will say that you're right when we're thinking about building a new product first of all we obviously go through a very detailed process to think about whether the launcher in the first place we take all sorts of information

From around the world what investors are telling us what our sales team is telling us what's happening in the unlisted fund space what's happening overseas and and obviously we need to make sure we think we can sell it on and

There's going to be demand for it but once that's all done we actually make liquidity very very central to our effort because the whole point of ETF is that the tea and ETF is tradable right etf exchange-traded fund so there's no

Point creating a fund if it can't be sort of easily bought and sold by either the end investor or the market maker so we we think very carefully about that and you are a hundred percent right that the way in which we get one started and

Easiest data once you've designed it come up with the index chosen an index set the fees etc once we once it's done all that we absolutely do make sure that there will be at least one particularly multi marker makers who are signed on as

Official market makers the list for those funds so they do actually sign a market maker agreement so that we know there will be there to offer liquidity and the only reason they would do that is because they have got away first of

All they need to sort of think that that particular ETF is gonna use kind of trade well and that means there make some money on that and also they need to make sure that it's going to be liquid so that when they're out there to sell

It sort of offering offering units to the market or often prices to the market they can adequately hedge themselves in the back end and they can't do that if the actual underlying exposes is very illiquid so we do have great

Relationships with these market makers and we spend a lot of time fostering those relationships in fact we would say it's a of competitive advantage for us we keep we keep after with them all the time we

Have a large number of relationships we during the trading day on making sure they're doing what they say they're doing and if they're not we'll give them a nudge to say hey listen looks like you could do a bit better or you can bring

The price in a bit or you could increase the volume so that market make a relationship is critical and you're 100 percent right that you really can't start a an ETF without a market make a relationship to begin with and what are

Some of the things which you might stipulate with a market makers so they might need to be you know the spread can only be so wide or they must be quoting you know 90% of the time or like what are some of the things which you specify

With the market making yeah so there's a there's a list of rules that are designated by the ASX so those are the basic rules that they stipulate that you have to exactly that you have to be on screen X percent at the time you have to

Keep spreads which is the difference between the Buy and the sell price to a certain level I'm sure being a trading oriented podcast you'll be familiar with with spreads so those types of things but in practice we actually go a loss

Though than that and we we ask them in particular what sort of a spread they think they're going to be quoting and that's incorporated in our you know in our discussions with them so you know there's usually this minimum threshold

We always try to bring it in a lot more and yeah and you'll see that across the board really in Australia those market makers are doing a pretty good job now they are providing very very tight spreads around the navs

And they are on screen most of the time if not all the time and and so those are the types of things we think about when talking with in dealing with market maker how do you ensure products such as your short annual leveraged ATF's work

As intended and what I mean by that is okay so we've got the asx200 ATF there's also a short version of that so if someone buys that it's it's supposed to track the asx200 bit inverse yeah so that those funds you referring to our

Short short range of funds and they have better ones that we were talking about before that have been insanely insanely popular in this recent time period as I said we saw in as you said you know one of those funds which is b

Bo z which is a leveraged short fund over the asx200 has you know had recorded know by far the largest amount of trading out of any etf in australia in the month of march of 2020 so that was the the two billion

Dollars so um first of all let's just discuss a little bit about those funds how they actually are made because I think that will help answer the question show how they are made and there is a difference between the ones that are

Short and the ones that are long so firstly first and foremostly lift that with the short funds I know that there's probably a good number of people that listening to this podcast that have come across those funds they are the bearish

Shares bear sweeter funds the most popular of which is that one you mentioned the their BB o ZM bear the difference between them is that bear is an unleveraged short and BB o z r is a leveraged short product so that's the

Difference so those funds aim to provide to provide a negatively correlated exposure to the asx200 so they're not aimed they don't aim to be directly inverse and we'll explain why they aim to be on a given day they aim to be

Inverse inverse to a particular range so the bear fund on any given day looks to be provide a short exposure that is between negative or basically 90 to 110 percent so negative negative 9 negative point nine to one point one of the

Asx200 whereas the leverage short fund the BB o ZD fund is a leveraged fund as I said and that aimed to be leveraged short to a range of negative 200 to negative two hundred seventy five percent so two

Point seven five and two so that's their purpose so people shouldn't expect them to be one for one over long period of time that's a daily that's a daily it's a sort of a daily objectives now how they work is actually relatively simple

For those who understand what futures are we are essentially shorting the futures that are associated with the particular exposure so we've with a bear Australian bear funds bbo zealand bear we are shorting air-sex 200 futures

Or the BB US fund which as it sounds is a US exposure we're shorting the S&P 500 futures and in relation to the gearing the way in which we deal with that that's just a question of our position sizing so we're just making sure that on

Any given day that particular exposure is is is in line with that gearing ratio so that's that's that's how they're made and took for those funds they they do what they say that they're going to do because because it's a very

Straightforward it's a very straightforward thing for us to do we're simply just buying the we're shorting those spy futures you know at at that particular range negative 9/2 11 and the way that it works is that in order

To keep things in range because we have a ranged like that what we try to do is if any give we let the exposure run and if on any given day that exposure goes above above or beyond that threshold that I mentioned we will rebalance back

To the middle points of that exposure will rebalance back now that typically doesn't actually happen all that often except in very volatile markets like now and the reason we do that is because if you don't do that your leverage can go

Can get out of control and essentially the whole point of these funds is to allow investors to invest knowing that they can't lose more than their initial capital do that unlike CFDs and other things where you can you know you can

Receive margin calls or you can lose more than you put in these products are not meant to be to acting that way they're meant to be exposures that you do not have to worry about getting any margin calls and they're also exposed

With for at any at any given time an investor can come in and know what their existing what their existing leverages and what their existing exposure level is so that's that's how those funds are created the short funds and if you'd

Like I can talk about the long-eared funds as well well just before we do that yeah and forgive me if you've partially already explained this but yeah so the the long just that the regular asx200 ATF let's say the

Underlying futures go up 1% then we'd expect that the ETF also goes up 1% correct yes that's right yeah the asx200 ETF that newse futures at all that just is actually buying the shares it's actually

Buying the shares so there's no futures there they're just which is the reason why it will literally go up at that point unless the less that's very small fear that I mentioned before of course okay yeah so in the case of the inverse

Etf or the short etf yes the underline for that you are short the futures that's right so if the asx200 goes up 1% then would expect that inverse etf to go down 1% yeah well to go down between point nine to one point one percent okay

So my question is how do you control that I mean sure you hold the underlined assets bit the price is ultimately governed by traders who are in the market right at that point in time like if someone is is buying it up or or

Selling it that's moving the price how do you make sure that price is in line with the underlying asset well simply because we are also owning that underlying asset we're just shorting it so so it's mechanical isn't

It so if it doesn't matter what the underlying air-sex Hunter 6200 does if we shorting that future then we will then we will provide you know a negative version of that a negative version of that on that day at that at that

Particular amount so if the asx200 was to go up as it has been you know you know sort of go up you know sometimes in a very large we're like 5% because because a whole lot of people have been sort of buying Ozzy shares then so too

Should our ETF be expected to go down by around about 5% on that given day but is there a chance that the ATF won't like what if someone is in there and they're doing something crazy and I'm just gonna rack my brain to think

About which side okay let's say the market is going up so the short ETF should be coming down yeah let's say someone is just got a lot of bids stacked huge they could essentially stop the ETF price from moving down one

Percent to be the direct in verse of what the actual markets doing aright are you talking about if a whole lot of people are by means I sort of put it all on a bid stat on the ETF itself yes okay so that comes back to

The fact that I'm buying and selling of the underlying ETF has no impact on the price of the ETF so that's the important thing to understand it's not like a sheik a company where you know if there's a whole lot more buyers than

There are sellers that the price of that company will go up and that's because of that open-ended nature that I mentioned so the the fact that it's open-ended means that there's there's no relationship between how many people are

Buying the ETF and the price of that ETF it is it is simply the underlying price of the security in this case it's a short short security but it really doesn't change the fact it's that particular underlying security price

That's changing the market you can't game that you can't game that because these are you know these are essentially instruments that are open-ended so if somebody was to if somebody was to put a crazy you know a crazy price in

There it just simply wouldn't you know it simply wouldn't be hit by that market maker it just couldn't be hit by that market maker so so that is the whole that's the whole I guess key of an ETF is that it is open-ended and that

Open-ended nature means that you can be quite sure that the price of these yf is not in any way being affected by the buying and selling of the underlying are butting up of the buying and selling by the individual investors in their price

Interesting okay I think that answers my question yes because it's it's so it's different to a stock where if someone has a humongous bid at a certain price then the markets gonna struggle to get below that price a little bit until

Enough sellers are willing to push through it yeah that doesn't it doesn't work that that at all and I said that's because of the fact that it's open then and because of the fact those market makers are

There and they're just there's just no way to manipulate that that that price by Yun using the easi have otherwise would be one of the easiest games in town isn't it so that's um that's the way in which those particular those

Particular products work gotcha okay okay very very interesting but often wondered about that yeah yeah so the important thing to understand is that this open-ended again a lot of investors don't understand that

That the amount of bids and offers etcetera that you see on the screen and and for that matter the amount of volume that goes through the ETF on any given day is just a tip of the iceberg if we wanted to somebody could go and buy

Essentially the amount of liquidity in that ETF is only bound by the Allah the entirely in the case of the S&P 500 or the spire futures is essentially very very very close to limitless so that open-ended nature is the key difference

Between an ETF and a share and that really means that as I said before those underlying prices are are really only focused on the underlying security prices not the buyers themselves okay yep I'm with you right now when we talk

About you've mentioned it a couple times you have like an ETF which will track the Nasdaq 100 how does the Nasdaq 100 ETF which is provided by beta shares which trades on the Australian market how does that track the Nasdaq 100 in

The US when their hours don't align so the thing about the Nasdaq 100 for example is that there's there's this there's 20 essentially 24-hour futures prices on that and as Dec 100 so while this is the case for any international

ETF whether offered by bearish shares or for that matter any other group in the world the way in which the market maker once again will set the prices of those international ETFs is by reference to the futures prices which are live and

Which still take into account you know the last those trailing and anything else that comes that comes into the into the into the people's minds aftermarket in the US and that's why you know it can it can actually sometimes reflect

Pricing that things that haven't happened yet in the US an example if something was released aftermarket for example so it's actually quite a straightforward way in which in which those particular units in ETF supply are

Priced that doesn't matter no matter which international ETF you're looking at it will will use futures for providing the bid and offer prices to investors right just one other thing at Shi two

More things before we close this out you often see numbers thrown around in headlines referring to inflows and outflows of ETFs yeah can you just explain that bit please yeah so I think people are interested in that because so

What that means first of all just answer your question and what that means is how much so inflows and outflows really is how much net buying and net selling around the ETFs that's that's actually the reaction by investors rather than

The you know the market the market movements so it's independent of the market movement is how much people are buying this particular product and how much people are selling this particular product in dollars and that's what

Inflows and outflows means and I think the reason why people are quite interested in those is because there can be a really good way to gauge to know to gauge sentiment you know for example if we are seeing as we are a whole lot of

People buying into our short funds as I said that two billion dollars in the month of March that indicates the people the reason why that's reported a lot is that indicates to people that there's a fair bit of bearishness around in many

Ways it's one of the best ways to get a view on you know acquired quite a sort of granular level what people are thinking so in the same could be said for when we see people reporting that there's been a whole lot of flows into

Let's say the infrastructure sector ETF or the resources sector ETF or a lot of outflows in the European ETF what that essentially tells investors is that hey broadly speaking there's a view out there that is bearish on for example

Europe whereas it's a whole lot of people were buying I don't know health care ETFs well that means that healthcare stocks are in you know are in vogue so it's a way that people are increasingly using because ETFs are

Becoming to be such a big part of the environment now they're increasingly using those flows to indicate sentiment and to get a view on what you know what people are thinking in the investing world okay so that's kind of the main

Use for understanding that bit is just a get bit of a gauge on the the market sentiment I think market sentiment and also does what's popular and what's not so I mentioned that there was a whole lot of

Inflows into Australian shares ETF in March whereas before there was a whole lotta inflows into fixed income so that tells you that there's at least a view out there by some people that it might be worth buying Australian shares and

Because it's done in that in that sort of broad format rather than sort of thinking about hey should i buy bhp or Apple CBA it sort of indicates that there's a sentiment out there that says there might be an opportunity to buy the

Dip so I think I think that's right what you said it is it is largely about sentiment right now just one last question before I let you go ATF's are often marketed as being a good investment tool what are some tips for

Someone who is investing mainly in ETF's for the long term so I know a lot of the things we've spoken about here kind of relate to trading and sort of more the technical part but just for anyone who's also interested in investing for the

Longer term you know might have a 30 year horizon etc what are some tips you would give to someone before they you know put some money into a few ETFs yeah well first of all the the fact this so many ETFs the fact there's so many types

Shapes size as we spoke about long we spoken about short I should just say that even though most people review ETFs as as great long-term investments and I think they really are they are also really interesting ways to trade views

Because essentially given all those things I've mentioned and I haven't even mentioned a half of what what's available this is currency ETFs etc etc you can express a huge number of trading views of any sort whether it's like a

Relative value trade or whether you're taking a particular sector view into account or a long and short payers trade you can do all that buyer ETF we haven't even mentioned the fact that you can take particular sector bets if you

Wanted to you know that say you really like the cybersecurity sector or the technology sector so or the gold sector so you can definitely do a lot of trading but to get back to your question you're right that at the heart the vast

Majority of people who are getting started and investing look two ETFs as a way to to generate long-term wealth and I think if you're looking to do that they're obviously a very good way to do that because they're

Very low cost and the tips are really to not to keep things simple take a few building blocks that are typically highly diversified low in cost and stick with those and add to those so if you're in it as a long-term investor and not a

Trader then the very opposite applies you don't want to over try it you want to just incorporate broad building blocks for let's say global shares some Australian shares perhaps adding some bonds for diversification benefits and

We refuse with a fuse with a few easy trades you'll basically have a highly diversified portfolio right there because if you think about it you'd have 200 stocks in the Australia you buy a global shares ETF that could be many

Many thousands of ETF the allottee bond in there all of a sudden were three trades you might have twelve fifteen hundred things that you're exposed to so you have super diversified and so the tip is to keep it simple like that ad

Over time we ever possible and stick with it so don't let things like the current environment force you to sell you're not you don't need to be a fourth fella the only people that should be selling right now are those that for

Some reason need to or trading it if you are actually looking to generate long-term wealth and sticking to it in a simple low-cost way and adding to it over time is super valuable and the other way it's obviously just makes sure

That you do things like your ERP is your divot abuse and Reinvestment plan so every time there's a distribution you reinvest that rather than taking it out and over time you'll generate wealth that way

And finally it's always good to invest in things you understand as well and that's why for example we've seen a whole lot of people buy things like the Nasdaq because people understand a pond they understand Amazon and they

Understand Facebook and they understand Google so so those are the tips I would I would say for those people that are long-term investors don't get too hung up on short-term fluctuations build the core and then once you've built a nice

Core then perhaps you can start playing around on the satellites with more so Matic you know more esoteric ideas but the point is you've still got that great core that is growing with you and essentially generating that long-term

Wealth for yourself as you mentioned it I guess I'd better ask you trading some relative value types of strategies using ETFs trading relationships that sort of thing are there any ideas you might just want to leave some listeners with you

Know ideas that they could go away and do their own research yeah of course so first of all you can take a view on a particular sector just simply so you know if you've got a view that that for example you know in today's market the

Energy sector of the global energy set has been way oversold and you want to take a view on on that you can invest in the global energy ETF yeah it's called a fuel if you think on the other hand that things are still

Pretty dodgy you might want to invest in gold or you might want to invest in the gold miners ETF that MMN RS the gold miners ETF we've spoken a lot about taking a view on a downturn using the bear the best way to funds that I don't

Need to talk about that we've got currency oriented funds for those that want to take a view on on the Australian dollar versus the US dollar as well and those are currency are entities yes some of them are geared

Some of them are not you can take a view on on longer-term secular themes you know we see investors interested in themes that really are built for the long term so we've got for example a very popular cybersecurity ETF AK h SEK

You know that is one where people will say look yeah we're in a tough time at the moment but cybersecurity is only going to grow and grow and grow so you know that is a you know a thematic trade so you've got that there for those that

Are a bit more sophisticated you know you could take a view using some sort of a pairs trade you know an example might be let's say you really didn't like the look of the Australian the Australian now the share market but you thought

That there was one or two sectors that we're really gonna stand out so let's say for example you really thought the over the long term you didn't like the banks you didn't like the mining companies but you thought this you know

There's those emerging Australian technology companies we're gonna we're gonna out you know I'll do them all so the after pays or the app or you know those types of those types of organizations so you could for

Example then if you felt that way you could buy a short fund at the beer bureaus eared fund and then you could go long the Australian technology sector fund so you're taking out the market you're essentially shortened the market

But you're going long just the Australian technology sector or you know finally you know you could say listen I actually and these are all just hypothetical you can sort of see where I'm going with these ideas is you know

You might say look actually Australia's being oversold relative to the us the us is actually now bounced back too much it looks a little bit overvalued relative to where things are at whereas the Australian market is still you know

For example hypothetically it still looks like relative value so then you could go long a leveraged geared fund and you could go short a leveraged so you go long a leveraged leveraged Australian shares fun gear and then you

Could go long a short us fund which is B BOS so essentially you take you that's a relative value play on Australia versus the us that way so those are some some examples that of course a highly highly hypothetical you need to your own

Research but those are some of the things we see people doing of course but yeah there's certainly so many opportunities for different ways that you can get creative about how you want to express your ideas with with ETFs and

Do it all with you know just a couple of trades – yeah Elan will I've thoroughly enjoyed having this conversation with you thank you very much for coming on the podcast I'm sure there'll be some people listening to this who would like

To follow along with you maybe Twitter is the best place to do so Twitter you know BT shares is on Twitter I'm on Twitter as well we're obviously on LinkedIn and we were on Facebook so we're everywhere and so anywhere anyone

Who wants to get a hold of us they can and of course our website beta shares you know comm did I you easier to find and your Twitter handle is Elan i LAN underscore I alright we'll leave it there until next time thank you very

Much he learned we'll chat soon you've reached the end of this episode of chat with traders but rest assured there are more episodes loaded with real market insight and zero hype on the way soon so to stay updated with each great

New release subscribe to the podcast and iTunes and we'd love it if you'd leave a rating and review we'll catch you next time on chat with traders you

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