Seven up

Peter Sleep, portfolio manager of the £375m Asset Allocated Passive (AAP) funds at Seven Investment Management, talks to Nick Sudbury about gaining low cost exposure to global markets

What is the investment objective of your AAP fund programme?

The aim of all Seven Investment Management’s (7IM) programmes is to provide good returns with low volatility based on each client’s individual risk tolerance. 7IM has traditionally done this through a series of multi-manager portfolios invested in global equities, fixed income and alternatives.

The AAP is a lower cost solution that varies from our traditional multi-manager funds in that it invests in the market via passive vehicles such as ETFs or tracker funds. Using these products we are able to deliver an annual management charge as low as 0.5% and a total expense ratio (TER) of 0.65%, which we anticipate will fall further as the programme becomes larger.

What role do ETFs play in your investment strategy?

In the AAP, ETFs allow us to access global markets in a cost effective manner. This enables us to fully diversify our clients’ portfolio so as to maximise their returns and minimise volatility. There is a different emphasis in the main multi-manager programme. Here we adopt a core and satellite approach, with the ETFs being used to implement our shorter term tactical asset allocation decisions.

What percentage of your assets under management (AUM) would you typically invest in ETFs?
In the main multi-manager programme about 20% of the portfolio is invested in ETFs, whereas in the AAP it is more like 50% to 60%.

Why do you prefer ETFs to alternative investment vehicles?

We do not prefer ETFs to other vehicles. Currently we favour tracker funds, where we can find them to fit into our investment strategy. The AAP’s priority is to deliver on its return and volatility promises to its end clients in the most cost efficient way. At present, some of the tracker funds available from houses like Vanguard, HSBC and BlackRock are more cost effective than ETFs. We lose a little bit of flexibility when we use tracker funds, but we are relatively relaxed about it as 7IM is a long-term investor.

Are there any asset classes that are especially suited to ETFs?

We do not think ETFs have any particular advantages over other alternatives like tracker funds or futures; rather the reverse, as they are often more expensive in Europe. The big plus with ETFs is their flexibility, which has led to a bewildering array of choice for investors, and the ability to trade them through the day, although that is not something we necessarily utilise to any great extent.

Are there any asset classes where you would not opt to use them?

We think the short funds that are designed to profit from price falls and the geared products are unsuitable for our long-term style of investing. The path dependency of these sorts of vehicles means they are more relevant for intra-day traders.

If there are competing ETFs in an area that you want to invest in how would you decide which one to go for?

We clearly look at regulatory, compliance, tax and counterparty issues first. These crop up more often than perhaps many people think. We also like to see a coupon or dividend payment wherever possible, as most of 7IM’s end investors are retail and like to receive a distribution from our funds to supplement their other sources of income.

Aside from these issues, we look at the relative annual cost of ownership. This includes the upfront creation fee, the annual TER and the cost of redemption at the end of the year. We do this as we tend to deal in large sizes and the cost of creation and redemption usually overwhelms any differential in TERs.

We also have a lot of smaller daily cash flows, so we track bid-offer spreads and the premium or discount to net asset value (NAV). I am always a little surprised that some ETF providers do not manage this area of their business better than they do, as some of them have quite a patchy record.

Do you prefer to use traditionally replicated or synthetic ETFs?

We are agnostic on this, as we do a lot of work on counterparty risk. Having said that, it is certainly easier to explain to our retail clients how a traditional ETF works rather than a synthetic equivalent. The concept of synthetic sampling and replication can bewilder the retail market.

Which ETF of all those you invest in are you most excited about?

We are excited when we find value for our investors. For instance, we were very pleased to be able to switch out of some Asian market ETFs and into low cost tracking funds from Vanguard and Blackrock. Another example of finding value today is the relative cheapness of the iShares FTSE 100 ETF, which is trading at a discount to NAV. This means I can effectively escape the half percent stamp duty.

We are also excited about products like the db x-trackers Optimised Commodity index, which seeks to reduce the cost of maintaining an investment in commodities. We like it partly because it has a great track record against the benchmark and partly because we think the costs of ownership of commodities are otherwise too high. We also hold the db x-trackers db Hedge Fund index ETF, although again we have reservations about the total costs of this product.

How do you view the ever increasing range of ETFs on offer?

We know that many fund managers do not like the plethora of ETF issuers and products that are continually springing up, but we believe that we should welcome them as it is this competitive pressure that will help bring costs down in the long-term.