iShares says ETFs using derivatives should be renamed

An iShares managing director told a US Senate hearing yesterday that ETFs using derivatives should not be called ETFs.

"Some sponsors have introduced new products of increased complexity that carry greater risk and may not be appropriate for retail ‘buy and hold' investors," Noel Archard, managing director at BlackRock's ETF business iShares said in his testimony ahead of the Senate hearing on ETFs.

"Products which raise such concerns include so-called leveraged and inverse funds, products that are backed principally by derivatives rather than physical holdings.... BlackRock believes that they should not be labelled ETFs."

During the hearing he said that there had not been sufficient explanation of differences and that a classification system is needed to "put in some speed bumps" so that investors will stop and ask questions. He said that "you can never have enough disclosure," and something as simple as changing the name would help.

Speaking after the hearing, Jennifer Grancio, head of US distribution further outlined iShares' stance. "As newer, more complex products come into the market we as a business wanted to take a stand in helping investors understand the products and helping the regulators think about ways to make changes that help investors understand how the products differ and the different risks."

Products which are backed by derivatives should come under the ETI category, she explains, as outlined in iShares due diligence campaign for the European market.

She stressed that these proposals relate solely to the US market, where the majority of ETFs hold physical assets, however, "some of the other products are more complex or have a different investment objective, the main example is the inverse and leveraged product and some don't use physical securities to deliver returns, they use derivatives," says Grancio.

"We think in the US the regulations can get even clearer about what does the term ETF mean and then let's use some other labels for products which are structured differently."

iShares currently has four products which would not fall under the new definition of an ETF, she said. Grancio explained that iShares discloses the differences when marketing the products but that "the industry should use a classification system so we are all using the same language and investors know which products are the same and are different".

ETFs' use of derivatives has been the subject of much discussion in Europe. Grancio says this will have had some influence on discussions in the US but said that the vast majority of US-listed ETFs do not use derivatives.

The Senate Committee on Banking, Housing, and Urban Affairs held the hearing as a result of concerns over the growth of the ETF industry and at the same time, recent market volatility.

Introducing the hearing, Jack Reed, US Senator for Rhode Island, noted that ETFs have been labelled as the "new weapons of mass destruction".

Questions were asked about the wider impact ETFs were having on the market, particularly in relation to volatility.

Grancio says it is likely that there will be follow up from the hearing. "I think there is a lot of interest in taking this agenda forward and we are on the road to that regulatory reform."