1. December 2012An introductory guide toExchangeTraded Funds

2. WELCOMEW elcome to our special one-off magazine,income from them may go down as well as up and you Exchange Traded, which focuses on an asset may not get back the original amount you invested. If you class that has recently established itself as aare unsure whether an investment is right for you, youfront-runner in many individuals portfolio choices.should seek professional advice. Different ETFs may haveWe look at why Exchange Traded Funds (ETFs) havespecific risks, so make sure that the investment that youbecome increasingly popular, what intrinsically they are, choose matches the level of risk you wish to take. Beforeand how you can find out more and invest in them. investing make sure that you understand the associateddocumentation such as key features, risk factors, importantETFs are index tracking funds that are traded on aninformation and product brochures.exchange such as the London Stock Exchange. Theycombine the ready-made diversification of unit trusts withOur guest journalist, David Stevenson, explains how ETFsthe simplicity of shares. The majority of ETFs are eligible are structured, breaking them down into simple terms withfor ISAs and attract no stamp duty. ETFs have some of the his straightforward analysis, and later on examines the riselowest annual charges of all collective investment schemes. of ETFs and their background. Our round table discussionBut remember as with any investments the value and thereveals the various strategies surrounding investment, with 4How ETFs are structured 14 Exchange Traded round table in this4How ETFs are structured the world of synthetics David Stevenson examines the risks underlying ETFs.issue:9The Exchange Traded Top 20s Funds Alliance Trust Savings customers have been buying. 10Growth prospects in emerging markets HSBCs view of which markets to focus on 12How to buy an ETF or ETC with Alliance Trust Savings Garry Mcluckie gives a step by step guide. 3. helpful insight direct from investment professionals.Guest experts provide their views in feature articles fromHSBC, Deutsche Bank and Invesco PowerShares, whilstour article gives you the practicalities of investing inETFs a how to guide.I hope you enjoy this ETF special edition, and wouldlike to hear from you about any other products ordevelopments you would like further informationabout. Please send any feedback or suggestions tomarketingresponses@alliancetrust.co.ukGarry McLuckieMarketing DirectorAlliance Trust Savings20 Dynamic asset allocation24 The ETF Boom 14Exchange Traded round table a discussion about ETFs with our panel of experts. 20Dynamic asset allocation Manooj Mistry Alliance Trust Savings Limited of Deutsche Bank talks about the choicesPO Box 164, available with ETFs.8 West Marketgait 22The Power of Fundamentals Ravinder AzadDundee DD1 9YP of Invesco reviews the stock markets.Tel +44 (0)1382 573737 24The ETF Boom David Stevenson gives anFax +44 (0)1382 321183 overview of the ETF market.Email contact@alliancetrust.co.ukWeb www.alliancetrustsavings.co.uk 4. 4 EXCHANGE TRADED | How ETFs are StructuredOver the past decade aquiet revolution hasripped through thenormally fairly placidworld of investment.How ETFs arestructured In the good old days, investorsDavid Stevenson is a financialjournalist and media entrepreneur.looking to buy exposure to a majorHe writes the Adventurous Investormarket like the FTSE 100 or thecolumn for the weekend FinancialTimes and the Contrarian column forAmerican S&P 500 had two simple choices industry newspaper Investment Week.buy an actively managed fund that investedHes also a regular contributor to the in the companies in this index, or buy theInvestors Chronicle and has writtena number of books on investing for actual companies in the index as individualthe FT and Prentice Hall including stocks. Plenty of investors have continued tothe main reference book on ETFs. stick with this traditional style of investingDavid was also a senior producer but a much cheaper and hugely popularin television working on arange of programmes at the BBC alternative (in the USA at least) has emergedincluding The Money Programmein recent years. This consists of investing inand Tomorrows World - beforeDavid Stevenson setting up the successful corporatea fund that tracks a major index such as theInvestment Columnistcommunications agency The Rocket FTSE 100 or S&P 500. The actual tracking Financial Times Science Group. Hes now a partner in as well discover - is very simple tothe web TV platform Watering Holeand is involved with helping media understand and involves the fund managercompanies raise funding through the(for it is a fund) buying the long list ofCoalition Partners investment group.In whatever spare time he has left,constituent stocks in the index.David is also a magistrate and he evenfinds time to edit his own investmentThe actual structure of the resulting fund willnewsletter called PortfolioReview. vary enormously with the big choice being between an unlisted, traditional unit trust or a 5. How ETFs are Structured | EXCHANGE TRADED5London stock market listed exchange tradedfund (also known as an ETF). Just to confuse an ETF is like anything else in the world of investment there are some specific risks whichWhatever fundmatters there are other fund and product well talk about later in this article but also some structure youstructures with even more exotic acronymsbig positives, namely lower cost, and doing awaywhich well examine in a later article but for with the risk of trusting a fund manager to makechoose, as anour purposes they are all simply index trackinglots of (hopefully profitable) trading decisions.investor you arefunds of one shape or another. More and more investors here in the UK are choosing to make use of ETFs and other index simply buyingWhatever fund structure you choose, as aninvestor you are simply buying the market tracking funds as part of their diversified portfolios. The key is to understand exactlythe market viavia an index. When compared to a traditionalactive fund manager such as an investment what you are buying into.an index.trust there are three big differences. Investing in the FTSE 100 IndexThe first and most important is that youvedecided to dispense with the services of a fundLets imagine that you have decided to invest inmanager who will actively manage yourthe worlds leading blue chip equity index, whichinvestments based on their own views about is the American Standard and Poors 500 index.the relative risks and rewards of a company in For whatever strategic reason youve decidedan index such as the FTSE 100 or S&P 500. That that this benchmark index gives you the rightopens up the investor in an index tracking fundexposure to the worlds leading, profit makingto a very specific risk which is that the indexcompanies. Youd thought about investing in the big stocks within the index outfits likethey are tracking might be full of absolute junk Apple and Exxon but you decided that youi.e. over-priced stocks that the market has wanted more diversification and didnt want tochased up in value to ridiculous prices. take the risk of picking the wrong stocks.But in dispensing with the services of an active Which ETF to invest in? There are, as you canfund manager, our ETF investor has also avoided imagine, dozens of S&P 500 trackers, issued bya big risk, which is that the active fund manager a multitude of large banks and fundhas made wrong decisions about the companies management groups. You decide for right orthey pick. Academics have endlessly studied fund wrong to invest in the biggest of them all, inmanager returns over the last 50 years and fact probably the largest ETF on the planet.theyve concluded that most fund managers dontoutperform the benchmark index such as the This is an American listed ETF with theFTSE 100 and the S&P 500. With index trackingNew York ticker SPY and it is managed byfunds you are simply buying whatever the wider a huge fund management company calledmarket is choosing to buy (as measured by an State Street.index) and doing away with the idiosyncraticrisks of opting for an active fund manager. Whats inside the ETF?Last but by no means least by investing in a What does the fund actually invest in? As youfund that is passively managed (we use the term might expect, SPY invests in the constituents ofpassive because there is no active fund manager the S&P 500 benchmark US index. In the tablebut simply a plan to methodically buy whatever below State Street has listed the top tenis in an index) you are cutting your costs very holdings within the index tracking fund, withsubstantially. Many investment trusts still charge familiar names such as Apple, Exxon andmore than 1% per annum for their active Microsoft topping the list. Needless to say theremanagement, whilst more than a few unit trusts are another 490 stocks above and beyond thesecharge well over 1.5% per annum. ETFs and top ten holdings. Youll also see that againstindex tracking unit trust funds rarely ever charge company is its weight within the index in themore than 1% per annum, with most charging a SPY fund, shares in Apple comprises 4.8% ofgood deal less than 0.5%. That extra 1% of costs the total value of the fund. If we were to look atcharged by active managers can add up to a the composition of the index, there would behuge amount over 10 or 20 years. almost no difference whatsoever the contentsWhat should become apparent is that theof the ETF would track (almost perfectly) thedecision to invest in an index tracking fund likecomposition of the index. 6. 6 EXCHANGE TRADED | How ETFs are Structured...we mightTop fund holdings in SPY index tracker* Physical tracking or replication is fine if one istracking a very broad, very liquid, well known begin to startNameWeight (%)index such as the S&P 500 or the FTSE 100. Apple4.80% These indices contain dozens of well knownworrying about Exxon Mobil3.20% names traded in the worlds leading equitysomethingMicrosoft International Business Machines1.80%1.79%markets, where there are literally tens ofthousands of professional institutions called theChevron Group1.73% operating on a real time basis. General Electric 1.73% trackingAT&T 1.68%But some indices arent quite as liquid, orefficient. These indices might track, forerror...Johnson & Johnson1.46%instance, Indian equities or track a very Procter & Gamble 1.43% Wells Fargo & Co 1.43%specialised bit of the UK mainstream equityspace such as small cap emerging market* As of 21/8/2012stocks that pay a high yield. Within thesespecialised indices there may be all mannerUnderstanding the tracking structureof complications for whatever reason,physically tracking a specialist index mightHow do the passive managers of this fund pullbe a tad more complicated than tracking theoff this tracking? The simple answer is that theyFTSE 100. This neednt prevent a funduse lots of computing power to make sure thatprovider from setting up a physical indexthey constantly track the index via their fund,tracking fund, but their management costsplus an active trading desk. If the price of a stockmight be a little higher. Also we mightdeclines by 10% in value on one day, bringingbegin to start worrying about somethingits weighting within the index down from saycalled the tracking error.4.85% to say 4.4%, the fund managers at an ETFsell their holdings of this stock to make up theThis complex sounding term is actuallydifference and vice versa. The key to thisvery simple to understand as it involvesparticular index is that the managers are measuring the returns from the underlyingphysically replicating the index i.e. if it says its index against the returns from the fund. Inin the index, the fund managers make sure thatsome cases a big difference of as much as 1% athose actual physical shares are in the fund. Thatyear might emerge. There are many reasonsphysical tracking is the norm in the US marketwhy this tracking error might emerge, not leastand is very common here in the UK.those bigger management fees, but the neteffect can be drastic. Imagine if your ETF wastracking an index and was supposed to haveThe synthetic tracker alternative returned 5% last year but the fund actuallyBut there is a newer alternative which involves only returned 3.5% in this example oura novel twist, called the synthetic tracker.tracking error is 1.5%. 7. How ETFs are Structured | EXCHANGE TRADED 7How does a Synthetic Tracker work?Behind the scenes the value of the swap and theassociated collateral backing up this return has As an investorAll this talk of tracking error and less liquidindices has spawned a rival to the physicalsimply increased from a total of 100m you need to(probably comprising 90m in collateral and areplicating index tracking fund. This is called10m swap contract) to 110m (99m in balance thethe synthetic tracker fund and in essencethere is just one crucial change.collateral and 11m swap contract). The beauty potentialof this synthetic tracking is that there need beA synthetic tracker fund following the FTSE no tracking error whatsoever and the issuer canreward of100, for instance, might do everything thealso underwrite to pay out the total net returnincluding dividends (once tax has been lower trackingsame as its peer which uses physical tracking(or replication) but with the synthetic fund, accounted for). Costs might also be substantiallyerrors, accessits core holdings wont be the stocks insidelower as a result and crucially, this syntheticthe actual index but what is essentially an swap is very efficient in dealing with less liquid to new marketsIOU. The issuer might be a large investment markets such as Indian equities. and lowerbank that already holds all those stocks withinthe S&P 500 as part of its normal tradingThe downside of a synthetic tracker should beimmediately obvious. The investor is taking a expenses withportfolio. The banks trading desk simplyissues an IOU to the fund which says thatrisk with that IOU. It is in essence a gamble on the downsidethe credit worthiness of the bank issuer, whichtheyll promise to pay out on the return fromintroduces the concept of counterparty risk. of counterpartyinvesting in the index. As collateral theyllissue what is called a swap (a kind ofThe bank will do its utmost to mitigate that riskrisk.for you, by offering up that collateral. Thecomplicated IOU) which is that promiseregulators will also probably force the bank and(measured against the return from the index)the issuer to limit that exposure to the swapas well as collateral to back up the promise orcontract to 10% at most of the value of the fund.contract. That collateral can come in manyBut there is no getting away from the fact youdifferent shapes and sizes and could beare taking a risk. As an investor you need towhatever stock the bank holds within itsbalance the potential reward of lower trackingtrading portfolios at the time.errors, access to new markets and lower expensesHow does this IOU work? For arguments sake with the downside of counterparty risk. Thelets imagine that our synthetic tracker is debate between physical and synthetic trackingfollowing the FTSE 100 over the next year. Thehas become very heated in recent years andfund starts with a market cap of 100m when many investors have what can seem like anthe FTSE 100 index is at 5,000. One year laterirrational distrust of synthetic ETFs. There arethe index has gone up by 10% and the indexpluses and minuses for both forms of tracking level is now 5,500. Our fund should now beinvestors simply need to understand the risksvalued at 110m.and make a considered judgement. 8. 8 EXCHANGE TRADED | How ETFs are StructuredYour checklist for using ETFsIts important to noteIs it an exchange traded fund or a that this stock lending isunit trust? carefully managed andThis is perhaps the most basic issue for manyprivate investors. Most of the index tracking monitored you need tofunds on offer are shares based funds that are make your own decisionlisted on an exchange, and thus the acronymused to describe them starts with an E, as inif you are happy withexchange. That means youve got to buy andsell through a stockbroker, who can deal in the procedures and thereal time although there will also be a bidcollateral on offer.offer spread between the asking and sellingprice. Many investors dont have accountswith stockbrokers but use an adviser who actually own. The borrower of stocks andmight not even have access to a dealingbonds in an iShares ETF portfolio willplatform. If this is the case theyll probably obviously have to pay a fee for the duration ofuse an index tracking unit trust fund or OEICthe loan. Theyll also lodge collateral inwhere the fund is structured in almost exactly return which can amount to as much as 145%the same way as an exchange traded fund butof the value of the loan in some isolated caseswith dealing on a daily basis. and more than 100% of the value of the loan in nearly all other cases.Counterparty risk how big a problem is it? Stock lending is a perfectly acceptable practiceExchange traded notes and certificates have many actively managed funds also engage inan obvious risk they are in effect an IOUsecurities lending nevertheless there is stillby a large financial institution, a form ofpotential for concern with this stock lending.securitised derivative. But that risk can also What happens if the borrower of shares in thebe overstated and can blind investors to the fund goes bust? How easy will it be to grabadvantages of using synthetic replication. back and sell any collateral offered up by thatInvestors also need to remember that all borrower? Yet its also important to note thatlisted products funds, notes and certificatesthis stock lending is carefully managed and are not covered by the Financial Servicesmonitored you need to make your ownCompensation Scheme (FSCS). Invest indecision if you are happy with the proceduresany exchange traded fund at your own risk and the collateral on offer.the government will not bail you out. How liquid is the ETF?Stock Lending activity how much goes ETFs have become very popular inon and who benefits? Europe, with trading volumes exploding inIf you do invest in a physical tracker youllrecent years. But that liquidity can also be aprobably be confident that your counterparty curse as markets stress or liquidity seizes up.risk is very low, as your fund manager ownsMarkets-makers may choose to expand the bidthat big basket of shares you are tracking. Butoffer spread on lightly traded ETFs tothere is another risk that you need to be awareunacceptable levels these spikes in bid offerof based around something called stock spreads can also move around on an intra daylending. Those physical baskets of liquidtrading basis. These excessive bid offer spreadsassets represent a real opportunity for aalso point to a bigger challenge exchangesophisticated organization like iShares andtraded products of all shapes and sizes may beits parent Blackrock why not lend out thethe big new thing in Europe but that listingshare and bond certificates within its portfolio activity hasnt always translated through intofor limited periods of time to externalactual action on exchange many Europeanorganizations who might to borrow them?ETFs, for instance, boast low Average Daily Volume (ADV) numbers.The borrowers are likely to be hedge fundsor bank trading desks who might have aparticular view on a company (bearish or Opinions expressed are those of David Stevenson, notbullish) and want to make a quick profit byAlliance Trust Savings Limited. Please read thespeculating on stocks and bonds they dont important information at the end of this publication. 9. Top 20s | EXCHANGE TRADED 9EXCHANGE Traded Funds Top 20sTake a look at which Exchange Traded Funds Alliance Trust Savings customers boughtbetween 1 January 2012 and 31 October 2012.Rank Asset1. iShares FTSE 1002. ETFS Physical Gold3. iShares S&P 5004. ETFS FTSE 100 Super Short Strategy5. iShares Markit iBoxx Corporate Bond Ex Financials6. iShares Index Linked Gilts7. iShares Markit iBoxx Euro Corporate Bond8. iShares Markit iBoxx Corporate Bond9. iShares Physical Gold10.iShares treasury Bond 1-311.db X-trackers FTSE 100 Short Daily12.iShares Dow Jones Emerging Markets Select Dividend13.iShares $ Emerging Markets Bond14.ETFS Physical Silver15.iShares FTSE UK All Stocks Gilt16.iShares FTSE 25017.iShares FTSE UK Dividend Plus18.db X-trackers MSCI AC Asia ex-Japan19.SPDR Euro S&P $ Dividend Aristocrats20.SPDR Euro S&P Dividend Aristocrats The table confirms the purchases of investors at that time; no reliance should be placed on the position of any company in making any investment decisions. The rankings are based on the value of all purchases made by Alliance Trust Savings customers in the Select SIPP, ISA and Investment Dealing Account. Alliance Trust Savings does not provide advice. If there are any terms you are unfamiliar with or you are unsure of, you may wish to seek financial advice. 10. 10 EXCHANGE TRADED | HSBC Global Asset Management Growth prospects in markets are still stro which markets toAt a time when developed A t a broader level, emerging nations have undoubtedly risen like a phoenix from the ashes of their own disasters,market countries seem to such as the Russian financial crisis of 1998. Today,be forever embroiled in emerging markets are the engine of global growth; while Westerneconomies stagnate, countries such as Brazil, Russia, India anddebt crises, hindered byChina (termed BRICs) continue to grow. At HSBC, we believe that lacklustre economic data these economies are likely to be the driving force of the new global and beset by volatile equity economy. In our opinion, they offer attractive investmentopportunities, for the following reasons. markets, the emergingFirst of all, the BRIC economies have, to varying degrees, shownmarket bloc continues rapid economic growth, increasing market size across all sectors.to show remarkableThey also have a burgeoning middle class, providing a rich sourceof potential consumption. Each of the BRIC countries also has resilience. In truth, a newmultiple and different attributes and, thus, each is distinct. world order seems nowBrazil, the fifth-largest country by area and population in theto be forming, with the US, world, has a wealth of mineral reserves and a focus on energyonce the undisputed kingresources, commodities and agriculture.of the global economy,Russia is the worlds largest country in terms of territory, with aconsumer market of over 140 million people, vast natural seeing its crown being resources, a highly educated workforce, and technologicallyslowly usurped by China.advanced research and production capabilities. 11. HSBC Global Asset Management | EXCHANGE TRADED11India has the second-largest population in the world with The four countries also complement eacha young and vibrant workforce. The Indian economy benefitsother. China, as one of the leadingfrom specialisation in services, outsourcing, technology andmanufacturing countries in the world, dependspharmaceuticals.on the importation of commodities and energyfrom Brazil and Russia. Meanwhile, IndiaChina, with 20% of the worlds population, is the mostprovides the IT services that make it possible topopulous in the world and has raced up the GDP ladder inoptimise the use of new technology. Thethe last decade. Indeed, China is one of the fastest-growingcontinued requirement of commodities fromeconomies in the world with an annual growth rate in excessBrazil and Russia will help boost the economiesof 10% over the last 30 years. In early 2011, it surpassed Japanof both countries. Meanwhile, India and Chinaas the second largest economy and seems set to replace the USAby as early as 2020. It is already the worlds largest exporter ofhave benefited from the recent global economicgoods and is a leading global manufacturer across a wide rangecrisis, as they are net importers. Overall, theseof industries, facilitated by its abundant labour resources.factors make the BRIC bloc compelling froman investment standpoint.n emergingAt HSBC, we have a number of products thataim to take advantage of these opportunities.We have recently launched a renminbi fixedincome fund, which aims to allow investorsto gain exposure to the renminbi, Chinasong currency, and to benefit from its potentialappreciation via investment in the offshorebond market.We also believe that Russia is of particularinterest and, in July 2011, launched the firstto focus onphysically replicated Russian ETF in Europe.ETFs are attractive as investments not onlybecause of their low costs, tax efficiency andstock-like features but also because theyprovide investors with a way of tapping into lessFurthermore, BRIC countries have compelling long-term accessible markets. HSBCs physically replicatedgrowth potential. The sustained growth of BRIC economiesRussian ETF tracks the MSCI Russia Cappedhas been based on a combination of demographic factors, Index, which represents the top 85% by marketincreased industrialisation and a wealth of natural resources.capitalisation of listed companies in the RussianThe pace of growth has seen their international significanceinvestable equity universe. The tracking of thisincrease rapidly, challenging the traditional economicindex ensures the ETF is highly correlated withdominance of developed markets. Recent growth has beenthe Russian market. Furthermore, the fund hasdriven by domestic rather than export demand, reducingso far has delivered better tracking-errorBRIC reliance on their developed markets trading partners.difference than most swap-based ETFs since itsThe outlook for BRIC nations is also promising. Growth rateslaunch date. By harnessing all of HSBCsin the BRIC countries are widely expected to exceed those ofcapabilities, we have been able to manage bothwestern markets, especially China and India. Their stronger Russian equity and broader emerging marketoutlook has been a key reason for the large investmentETFs on a physical and competitive basis thatinflows seen in recent years. are of high quality and good value.This article has been issued and approved by HSBC Global Asset Management.The value of investments and any income from them can go down as well as up and investors may not get back the amountoriginally invested. Investments in emerging markets are by their nature higher risk and potentially more volatile than those inherentin some established markets. Stock market investments should be viewed as a medium to long term investment and should be heldfor at least five years. The article is for information only and does not constitute investment advice or a recommendation to anyreader to buy or sell investments. The views expressed were held at the time of preparation and are subject to change without notice. 12. 12 EXCHANGE TRADED | Alliance Trust Savings How to buy an ETF or ETC with ALLIANCE TRUST SAVINGS You may be considering what the next steps are before deciding whether or not to become an ETF/ETC investor.The process really is the same as prior toBy clicking on the ETF tab (see table 1), you are taken topurchasing any investment and the key is alwaysthe main Morningstar page which contains a snapshotdo your research. Why? As well as being awareof information. This page is your hub to access more of the potential benefits of any investment you have to bedetailed information on the ETF/ETC of your choice. fully aware of the risks and how much risk you wish toThe snapshot page is a good way of finding your feet take. Only by conducting thorough research can youand allows you to search by category if youre interested make an informed decision, fully aware of the risks and in a particular sector. understand how much risk you are willing to take of bothBy using the drop down menus you can look at specific the risks and benefits of the underlying investment.ETF companies and their sectors such as Emerging At Alliance Trust Savings we understand the value Markets or Commodities. Once you have selected a of research in the investment decision process. We offercompany you can view a particular investment by all our customers free access to research services from simply clicking on the investment name, which will Morningstar, a recognised player in investment research then provide access to more detailed information on expertise and facilitation. You can access informationyour chosen investment. You can also use the search from Morningstar on our website by clicking on thebox and input the ETF name or Investment Symbol to Investment Selector tab at the top of our home page and find a specific investment. Once you have selected your then follow the instruction on that page which will takechosen investment you can view information via the you to the tool itself, or alternatively it is available when navigation on the left hand side (see table 2). you login securely to your account. In the next section of this article we will look at how In terms of ETFs and ETCs Morningstar holds a wealthyou can purchase an ETF online with Alliance Trust of information for you to consider. Savings. If you decide to purchase an ETF or ETC withSide bar menu from table 2 (opposite)1. Overview Provides high level information5. Portfolio Includes information on market cap,including Morningstar category, performance history, prospective earnings, dividend yield factor, historicalkey stats, ISA eligibility and Inception Date. earnings growth and asset allocation. ETFs/ETCs2. Chart Growth of 1,000 across different invest in specific sectors and therefore asset allocationtime frameswill typically be 100% equities for example within a specific region or 100% in a specific region.3. Performance Performance history trackedagainst an index. Also gives annual, trailing and6. Management Contact information of the ETF/quarterly returnsETC provider. Domicile, Legal structure, and whether or not the investment is a UCITs is also covered in4. Risk and ratings Morningstar risk rating this section.measured against category and return/risk analysis 7. Fees Includes any fees and expenses that you will incur when buying into an ETF. 13. Alliance Trust Savings | EXCHANGE TRADED 13Alliance Trust Savings you will be asked to logging in click on the Trading Centre tabconfirm that you have read the relevant Key and then click trade now. It is important toInvestor Information Document (KIID) before note that you cannot purchase an ETF/ETCcompleting the purchase. The KIID is really within the fund supermarket. If you haveuseful and provides important information. Theever purchased an equity with Alliance Trustgood news is that you can access KIIDs againSavings online the process is exactly thethrough the Documents tab of Morningstar. same for ETFs/ETCs.The information contained within the KIID isTo help you we have produced a list of allrequired by law to help you understand thethe ETFs/ETCs available on the Alliancenature and the risks of investing in the ETF/ETC. A KIID will only be provided where the Trust Savings platform and importantly theinvestment is classified as a UCITs.Investment Symbol that applies as you willneed this for any purchases or sells. ThisThere is much more information available andfull list is available within the forms andtoo much to cover here Why not log into documents section of our website underyour account today and find out more? Formal Documents. This list will also helpyou with your Morningstar Research asHow to purchase an ETF/ETC with some investments displayed on MorningstarAlliance trust Savingsare not available on our platform.Once you have completed your investment We hope you have found this short guide to Garry Mcluckieresearch and decided on which ETF/ETC toETF/ETC research helpful. Our website has aMarketing Directorpurchase the easiest way to complete your range of how to videos one of which is about Alliance Trust Savingspurchase is online using our secure trading purchasing an ETF or ETC online why notplatform. To purchase an ETF or ETC after check it out? Happy investing. Garry joined Alliance Trust Savings in October 2010. His role is to manage the1 Investment Information Alliance Trust Savings product News/CommentaryFunds UK Equities Int. Equities Investment Trusts ETF Search Enter name, ISIN or ticker and marketing strategy. ETF Quickrank Morningstar Tools Invesco Powershares Capital Mgmt LLC All Morningstar Categories Contact: Enter name, ISIN or tickerSearch SnapshotShort TermPerformancePortfolio Fees & DetailsDocumentsName MorningstarMorningstar YTD Total LastFor more information, please CategoryRatingTM Return ExpenseClose% Ratio% visit our websitePowerShares FTSE RAFI All-World 3000 Fd GBP Global Flex-Cap Equity Not Rated6.01 0.50 846.75GBXalliancetrustsavings.co.ukPowerShares Dynamic US Market FundUS Large-Cap Blend Eq... 10.93 0.75 568.13GBXPowerSharesEQQQ Fund GBPUS Large-Cap Growth E... 11.28 0.304,036.00 GBXPowerShares FTSE RAFI AsiaPac x-Jpn Fund G... Asia-Pacific ex-Japan E...Not Rated12.92 0.80 468.15GBXPowerShares FTSE RAFI Dev 1000 Fund GBP Global Large-Cap Value... 5.00 0.50 743.13GBXPowerShares FTSE RAFI Dev Eur Mid-Sm GBPEurope Mid-Cap Equity10.79 0.50 715.00GBXPowerShares FTSE RAFI EmergingMrkts Fund... Global Emerging Market... Not Rated 3.34 0.65 552.50GBXPowerShares FTSE RAFI Europe Fund GBP Europe Large-Cap Valu...7.83 0.50 564.63GBXPowerShares FTSE RAFI Hong Kong China Fd... Hong Kong EquityNot Rated18.92 0.551,282.00 GBXPowerShares FTSE RAFI UK 100 Fund UK Large-Cap Value Eq... 10.24 0.50 908.88GBXPowerShares FTSE RAFI US 1000 Fund GBPUS Large-Cap Value Eq...7.03 0.39 631.88GBXPowerShares Global Agriculture Fund GBP Sector Equity Agriculture 6.44 0.75 747.75GBX2 Investment Information Morningstar Fund ReportTMMorningstar ToolsOverviewdb Physical Gold ETC XGLD The value of investmentsChart Performance History31/10/2012 Key Stats and the income from themPerformance Growth of 1,000 (GBP) Morningstar CategoryMorningstar RatingTMRisk and Rating 1,406 Commodities PreciousMetals Not Ratedmay go down as well as1,332Portfolio 1,2581,184IMA Sector- ISIN GB00B5840F36 up and you may not getManagementNAV 30/10/2012 Day ChangeFees1,1101,036 USD 169.81 0.64%back the original amount962 Total Net Assets (mil) Total Expense Ration Print Glossary ?20082009 201020112012 -Annual Management - Inception Dateyou invested. Fund - -- - - 12.1 5.8Fee15/06/2010 +/- Cat- -- - - 15.0 3.6 0.29% +/- Cat- -- - -- - ISANo Exchange Name LONDON STOCKIf you are unsure whether an EXCHANGE, THECategory: Commodities Precious MetalsIndex: Benchmarkinvestment is right for you,Trailing Returns 31/10/2012 Fund Benchmarkor you are unfamiliar with Fund+/-Idx London Fix Gold PM PR USDYTD5.84 -Morningstar Benchmarkthe terminology, you should3 Years Annualized- --5 Years Annualized10 Years Annualized----seek professional advice.12 Month Yield 0.00Tax Year Return 15.78%Past performance is not aguide to future performance.Screens for illustration purposes only. Source: Morningstar 14. 14 EXCHANGE TRADED | Round Table ROUND TABLE David Stevenson chairs aDavid: Why would ordinary investors invest in index-tracking discussion about Exchange funds? Why would they not go off and invest in investment trusts or a Traded Funds with a panel ofstandard unit trust? experts: Nick Blake, Jose Garcia- Jose: I think one of the key things about the Zarate and Manooj Mistry. philosophy behind passive investment, is acknowledging the inability of active managers to comply with their objectives. There are a lot This round table event was filmed at the Tate Modern, of studies that show over the long term, that London on 5 September 2012. To view the full discussion active managers are unlikely to fulfil their visit alliancetrustsavings.co.ukinvestment objectives. 15. Round Table | EXCHANGE TRADED15 Nick Blake Head of Retail, Vanguard Nick Blake is Head of Retail. He is responsible for overseeing development of Vanguards fund range for the UK and European businesses and the distribution to our key retail audiences of Financial Planners, Wealth Managers and Asset Management Companies. Nick joined Vanguard in 2009 after a long career with a leading UK Life Office where he held senior positions in distribution, and more latterly as a key member of the team delivering a successful Wrap platform. Jose Garcia-ZarateSenior ETF Analyst, Morningstar Jose Garcia-Zarate is a senior ETF analyst for Morningstar, covering European ETFs. Before joining Morningstar in 2010, Jose spent seven years as a senior European sovereign bond market strategist for 4cast, a London-based consulting firm. Prior to 4cast, he was a macroeconomic analyst and Eurozone sovereign bond markets analyst for S&P MMS. Jose began his career as an analyst intern for Spains Economic Ministry, working in the external trade department in the ministrys USA office. Manooj Mistry UK Head of db X-trackers, Deutsche Bank Manooj Mistry is UK head of db X-trackers, Deutsche Banks exchange traded funds (ETF) platform. Manooj joined Deutsche Bank in 2006 having previously worked at Merrill Lynch International, where he was responsible for the development of LDRS ETFs, the first ETFs to be launched in Europe. Manooj graduated in economics and business finance from Brunel University.This is not a question of actually saying that theactive managers are not good at what they do, or If you look at it from a regulatory perspective an ETF is the most highly regulated product,The challengethat the rationale behind picking a certain stockan ETC is basically issued by a special purposefor investorsor a certain bond is not correct at the time, its vehicle and it trades like a security on thebasically measuring the performance over a longexchange and an Exchange Traded Note isis knowingterm period which is what investors should betypically a debt security issued by a bank.interested in.who will beat David: One of the most shockingthe index.David: What should investors reallythings is that the average fee charged Nick Blakefocus on?by average fund in Britain is actually going up not down over the last fewManooj: When you look at an ETF it is years and thats across the entireessentially the index-tracking fund listed on an universe of funds, but how do ETFs orexchange and it trades like any other listed unit trusts compare in terms of cost?security so in the same way as with aninvestment trust you buy it on the exchangeNick: Thats the challenge for investors, itsthrough your broker you can do the same with knowing in advance who will beat the indexan exchange traded fund. From a regulatory and thats the real challenge. Now, as to theperspective ETFs are regulated as any otherdifferent types, certainly in our view anOEIC or unit trust, they conform to whats Exchange Traded Fund, an index exchange-called the UCITS Regulations a pan-Europeantraded fund and a mutual fund is actually theset of regulations that govern funds acrosssame vehicle, its just a different way to buyEurope and youve also got the other ETPsthe same exposure in that way, typicallyExchange Traded Products categories out thereinvestors would find that an index fund or anso youve got Exchange Traded CommoditiesETF would typically be much lower cost thanwhich are known as ETCs and typically thesean active fund and thats because active fundswill give you exposure to single commodities orput a lot of effort into research trying toa basket of gold or oil for example and then you outthink the market, trying to do the deepalso have other products called Exchange research to understand how they mightTraded Notes and these tend to be linked, once out-perform the market, an index fund isntagain could be linked to commodities but could trying to beat the market, it just buys foralso be linked to strategies such as volatility. example everything in the FTSE 100. 16. 16 EXCHANGE TRADED | Round Table David: How much would Gold is purely a safe haven strategy borne an average index-tracking out of the uncertainty in the global one charge? economic picture and people are looking to protect capital. Its not so much that Nick: The usual sort of apples and apples theyre seeking to have positive returns comparison trouble here is that some of but at least preserve the capital and on the active funds include commissionsthe fixed income space you see a lot of and fees in them whereas many index interest in corporate bonds funds dont pay commission and fees Manooj: The reason why you can offer a but on a like for like basis an index fund single commodity exposure to something would typically be half a percent to like gold is that the vehicles that the three quarters of a percent cheaper than products are issued by are vehicles that an active fund in general and as you say arent as regulated as funds, they are the compound effect of those charges regulated as special purpose vehicles could be quite significant. which have the opportunity to issue debt Jose: We ran a study at Morningstar or securities linked to one asset so theyre about the implications of highnot subject to the same diversification management fees and it is astonishing rules you have in funds. how much of your long term returns can be eaten away by paying David: So theyre a little bit management fees. At 1% or 2% this riskier in their structure. doesnt sound like a lot, but this is compounding year after year.Manooj: Yes but a lot of these products for example the gold products are called a Manooj: Its very much like what we see whole physical gold, tobacco products. is that ETFs give retail investors the same tools as institution investors have, institution investors have been using David: It might be safer in passive products for many years. some respects. Manooj: What you typically see with an exchange traded commodity is that gold David: Because a lot of people is held in a vault somewhere backing that have pension funds, would investment so these products are backed pension funds make use of by the actual gold bars sitting somewhere index tracking? so these products are what I would call Jose: They do because this is one of thecollateralised or asset backed theyre key industries where you really need to physically backed by assets. make sure that the stream of revenue is David: And thats a crucial thing more or less secure and it is one of the because when we talk about key reasons why I think the ETF market commodities in fact you sort of have to is actually kicking off with some go down that route dont you because important growth rates in places like quite often theyre either physical the UK where you have a very holdings or theyre futures or theyre important pension fund industry. done on options exchanges so they cant be held in the traditional way that an David: What are the kinds ofequity fund would hold, you just cant things that people are buying do it that way can you so thats the out there at the moment?reason theyve done it that way. Jose: Well lately its been about a search for yields and trying to find the safestDavid: Whats the big difference investments. So, you have the fixed in this physical versus synthetic income space gathering a lot of debate, whats going on there? investors interest, and you have a It does sound very confusing commodity space of the ETFs.for many of us. 17. Round Table | EXCHANGE TRADED17Jose: I think the first thing is to define is what isa physical and what is a synthetic fund. Physical Regulations I mentioned earlier so as a minimum a fund must at least have 90% assets....it isis pretty easy to understand. The fund is either In many cases in the ETF industry many astonishinggoing to hold all the components of the index ora subset of the components of the index. providers are actually doing what is called over collateralisation so theyre actually assets greaterhow muchSynthetic providers or synthetic ETFs deliver thereturn of the indices via small contracts. than the value of the fund so these are basically an element of a cushion of security there.of your longThe key difference obviously in the structure isterm returnsthat a synthetic ETF will always have a counterparty risk, thats the nature of the structure David: To the outside observer who is used to traditional fundcan be eatenbecause a counterparty, typically that is when anstructuring, what are theaway by highinvestment bank will have to provide the returnadvantages of doing it this way?of the index and there is always the risk even Manooj: The advantages of syntheticmanagementthough theoretical that the bank will not beable, for whatever reason, to provide that return. replication or swap based replication is that youfees year after can deliver the index performance without any tracking error / difference. This means that you year...David: Manooj you do synthetic can guarantee that your returns will be the FTSEJose Garcia-Zarateso just talk us through how you100 index minus the management fees.structure a synthetic fund.Manooj: Jose has explained the first part in terms David: And to understand theof how the fund works, the fund is entering into a tracking error, its very simply an ideacontract with a bank to deliver the underlying which is that you say youre going toindex performance then as part of that contracttrack the FTSE 100 and it turns inthe fund also needs to receive some physical assets10% one year and you only turn inso this physical collateral is there to basically offset 9%, your tracking error will be 1%.the counter party exposure. The amount of assets Manooj: 1% yes and some of that 1% willthat need to be delivered or posted with the fundobviously be the management fee but there couldis determined by the regulations, by the UCITS be additional tracking error on top of that. 18. 18 EXCHANGE TRADED | Round TableDavid: So Nick you do a physicalslight tracking error and a good adviser andapproach and that sort of does what good investors really look for weighing offit says on the biscuit tin really you those trades around counter party risk versusbuy the FTSE 100, you buy the perfect tracking.bunch of stocks in the FTSE 100,Manooj: You can get counter party risk withwhat are the advantages of that the physical replication to a certain extentapproach do you think?Nick: Both methodologies (Synthetic and David: How does that work? IvePhysical) achieve the same outcome forheard things like stock lending, whatsinvestors and both are covered by the Europeangoing on there? Whats that all about?UCITS Rules. Our preferred approach isphysical, we like to own the securities and Jose: There could be counterparty risk indeposits that are there backing up the return for physical funds.investors. One of the challenges with physicalis, as the funds get broader, so lets say youre David: How does that work, surelytrying to track a more global index.if Nick has his 100 stocks, his FTSE100 hes got them in his safe andDavid: You hear things like the he has the certificates, whatsMSCI World. wrong with that then, what couldgo wrong there?Nick: Correct, and that might require you toown thousands of stock. Jose: The thing that could go wrong is that ifhe decides to actually lend those 100 securitiesAnd there could be a point of inefficiencyto other parties then obviously you create anwhere trying to own a very small amount of aelement of counterparty risk in the sense thatvery obscure opportunity means its those other parties might not return theinefficient for the fund manager to own thatsecurities to the fund. Not all physical fundsso whilst most physical managers will get asengage in securities lendings but a lot do.close as they can to the index and a reallygood one will do very well there you couldstart to see small amounts of tracking errorDavid: Whats an interesting areaout there that investors should justoccur so really the trade-off for investors herekeep an eye on, where theres a lotis with synthetic you get a certainty of returnof activity going on?because you have the promised return buthave counter party risk versus no counter Manooj: I think what were seeing is that withparty risk with physical but potentially aETFs retail investors have the same tools as 19. Round Table | EXCHANGE TRADED 19institutional investors have and what wevealready seen is a number of institutionalbroader access to these vehicles, betterdisclosure, more transparency just so that ...investorsportfolio managers using products like ETFs and investors have a far more informed way ofhave got farindex funds in their portfolios and theyre looking at their portfolios.using these products to do asset allocation soJose: Perhaps it is the pending revolution for more choicerather than choosing individual stocks orbonds, theyre actually deciding OK I wantthe ETF market, the accessibility and theand, also inextensive use of Exchange Traded Products byexposure to a particular market or asset class.the retail community. I think that socially thehow theyNick: The thing Im most pleased with actuallyconditions are right for an increasedis not so much in the strategies themselves but participation of the retail community becauseindex...more in the access that investors have to these people have to save money for things such as Nick Blakestrategies so there was a time when low costpensions and university costs.products wouldnt be carried by many of theplatforms out there because quite frankly theydidnt pay a commission being very low cost soinvestors really only had the choice of somerelatively expensive funds and things likeinvestment trusts or ETFs or no load mutualfunds typically wouldnt be carried but one ofthe developments Im delighted to see moreThis article is for information only. The views stated in the discussion are those offorward thinking platforms like Alliance Trustthe panel members at the time, and not Alliance Trust Savings Limited. Please readare making the access to these vehicles far the important information at the end of this publication.wider now than has ever been before soInvestments can down as well as up and capital is at risk so that investors mayinvestors have got far more choice and theyveget back less than they originally invested.also got choice in how they index so in manyways an ETF is just another way to index like a Investments in emerging markets may involve a higher element of risk due to lessmutual fund but how they index can also havewell-regulated markets and political and economic stability. Exchange rate changesan impact on cost as well, accessing thesemay cause the value of underlying overseas investments to go down as well as up.through a stock broking platform might be aWhilst care has been taken in compiling the transcript of the discussion, nocheaper way to go than accessing themrepresentation or warranty, express or implied, is made by Alliance Trust Savingsthrough a traditional funds platform andLimited as to its accuracy or completeness.investors should think about not just the costof the fund itself but also the cost of ownership Nothing contained in this transcript of the discussion should be construed asof the fund just as much because both of thosebeing an invitation or inducement to engage in investment activity. No advice iscosts will erode their returns over time so one given by Alliance Trust Savings Limited. For advice on investing, please consult anof the things Im delighted to see is just theindependent financial adviser. 20. 20 EXCHANGE TRADED | Deutsche Bank db X-trackers Dynamic asset allocation using ETFs Investors can use ETFs to build actively managed portfolios, or invest in a single ETF where an independent asset manager does the active allocation for you, says Manooj Mistry, UK head of db X-trackers, Deutsche Banks ETF division. T he traditional premise for investing in investors are happy to maintain beta exposure an ETF is to track the performance of a at low cost through investing in ETFs. Other market at low cost via a tightlyinvestors, however, aim not just to track market regulated and liquid trading instrument. As performance but to generate returns beyond index trackers, ETFs are explicitly designed notthat of the market. This type of above-market to provide returns above those provided by theperformance is known as alpha. index. Rather, they are simply designed to be an ETFs can also be used to pursue alpha. However, efficient mechanism for delivering unlike traditional pursuers of above market to the investor the indexs risk and reward. returns, who engage in stock and bond picking, In investment circles, acquiring exposure to thealpha generation using ETFs is all about asset whole market in this way is referred to as taking allocation being in the right market at the beta exposure. Many long-term, buy-and-hold right time, as opposed to being long the right underlying security. Focusing on asset allocation as the main driver of investment performance as opposed to company stock or bond selection constitutes a modern alternative to the traditional asset management approach. There is compelling evidence to suggest this could be a good way to generate alpha. Some academic research suggests that the majority of the variance in investor returns is determined by the overall choice of asset class invested in, rather than the individual choice of stocks or bonds. This may help explain why most active managers do not outperform markets consistently over time. db X-trackers, Deutsche Banks ETF platform, is the second largest ETF provider in Europe by assets under management. With over 200 ETFs to choose from, covering all major asset classes, investors can use db X-trackers ETFs to put together their own asset allocation portfolios. As a basic example, an investor seeking a globally diversified and asset class diversified portfolio, but with an allocation biased towards emerging markets, could combine long positions in db X-trackers ETFs on the FTSE 21. Deutsche Bank db X-trackers | EXCHANGE TRADED21All-World Ex UK, the iBoxx Gilts Total Transparent the full portfolio includingReturn Index, the DBLCI OY Balanced ETFall underlying holdings is published daily(GBP) which provides broad commodity on the internet.market exposure and the MSCI EmergingBy being highly diversified through beingMarkets TRN Index ETF, with a heavyexposed to a range of ETFs and ETCs, whichweighting towards the latter. (Note that this isthemselves track the performance of a largea hypothetical example only. Investors shouldnumber of constituent securities the dbseek professional advice before trading.)X-trackers multi-asset ETF aims to deliverFor investors who do not wish to actively stability in total returns while managingmanage their own portfolios, but like the ideavolatility. The product combines the positiveof potential alpha generation through activeelements of ETFs, such as being relativelyasset allocation with ETFs, there is anotherlow cost and transparent, with activealternative. In February, db X-trackers management performance. It is a straightManooj Mistrylaunched an actively managed ETF that usesforward and modern alternative to traditional UK Head of db X-trackersdiscretionary funds.Deutsche Bankasset manager SCM Private to allocate anunderlying portfolio of exchange-tradedproducts. The db X-trackers SCM Multi Asset Product Information Manooj Mistry, UK headETF invests in a portfolio of ETFs andof db X-trackers: ManoojMistry is UK head of dbexchange-traded commodities (ETCs) with thedb x-trackers SCM Multi Asset ETFX-trackers, Deutsche Banksgoal of using asset allocation to accumulate All-in Fee/TER0.89%exchange traded funds (ETF)returns significantly ahead of inflation. KeyTrading Currency GBP platform. Manooj joinedDeutsche Bank in 2006attributes of the ETF are: Exchange CodeXS7Mhaving previously worked at ISINIE00B6TTP151 Merrill Lynch International, Multi Asset the fund invests in a wide UCITS IV ComplaintYeswhere he was responsible for range of Deutsche Bank ETFs and ETCs tothe development of LDRS ISA/SIPP Eligible Yes gain significant diversification and liquidity ETFs, the first ETFs to belaunched in Europe. Manooj at low cost.graduated in economicsInvestors should note that db X-trackersand business finance from Actively managed the weightings/assetETFs are not capital protected or guaranteedBrunel University. allocations are actively managed on at leastand investors in each db X-trackers ETF a monthly basis by SCM Private and may beshould be prepared and able to sustain all equity, all bonds or all cash.losses of the capital invested up to a total Investment in indices the fund will invest loss. The value of an investment in a db solely in indices in order to produce more X-trackers ETF may go down as well as up and diversification and less volatility. past performance is not a reliable indicator offuture performance. Please consult your SCM is a fund manager with a provenfinancial advisor before you invest in a db track record over many years chiefX-trackers ETF since not all db X-trackers ETFs investment officer Alan Miller has anare suitable for all investors. A comprehensive exceptional record as a successful fundlist of risk factors is provided on www.etf. manager with over 22 years experience indb.com. For further information regarding risk many different investment vehicles rangingfactors of a specific instrument, please refer to from pension funds, investment trusts, unitthe risk factors section of the prospectus, or trusts and hedge funds.the Key Investor Information Document. Low cost the db x-trackers SCM Multi-Asset* Source: Lipper, Investment Life & Pensions Moneyfacts, July 2011. ETF has an all-in fee of 0.89% pa. This compares favourably with an average totalThis article has been issued and approved by expense ratio (TER) (annual operating costsDeutsche Bank db X-trackers. including underlying fund costs) for a fund-of-funds investing into externally managed equity funds of around 2.47%*. 22. 22EXCHANGE TRADED | Invesco PowerShares The Power of Fu Many investors have arguably been disillusioned by the apparently dismal performance of stock markets globally over the past decade, however, scratching the surface shows that there were many stocks that have done fairly well, and indices that have avoided sharp falls and in fact, have actually posted gains.The FTSE 100 Index is constructed byMarket-cap weighted indices do not usuallyinitially ranking all UK listed securities provide an accurate representation of the state ofRavinder Azadby their market capitalisation, arrivedan economy, but they do mirror the volatility ofListed Fund Sales ExecutiveInvesco Assetat by multiplying the number of shares in issue stock prices. The market price of a stock can beManagement Limited by the current market share price. The largestsignificantly inflated by the perceived future 100 stocks from this formula make up the FTSE growth prospects of the underlying company 100 Index we see in the financial pages of thewhich, as we saw during this tech-bubble, can beRavinder Azad has over 13years experience in asset national newspapers.overly optimistic, incorporate unknowns andmanagement, of which almosttherefore be prone to inaccuracies. As a result,eight have been spent in Since the launch in the United States of thethe underlying economic size and strength of aListed Fund Sales. He has been S&P 500 Index as the first market capitalisationinstrumental in the launch company cannot be determined with any realand on-going promotion weighted index in 1957, the global investment accuracy by reference to its position in a marketof the Invesco PowerShares community has embraced market-cap cap-weighted index due to possible marketUK Exchange Traded Funds weighting as the methodology underlying thebusiness. Ravinder passed speculation and mispricing.the IMC in 2000 and is a majority of modern market indices. Quitemember of the CFA Society. literally, market-cap weighting is the popular choice and has been broadly accepted as the A smarter way to access the market standard way to measure equity markets. Fundamentally weighted indices could be viewed as being essentially a modernisation of Market-cap weighted indexing means the market cap-weighted indices. These indices use a dictates the selection of and the weighting that a fundamentals-weighted approach designed to stock receives in an index. This is problematic assign index weights according to the financial because market speculation can cause significant considerations of a company, not its market mispricing of stocks which, in turn, can result in capitalisation. Fundamental indexation relies on what we believe to be disproportionate portfolio weights that are derived from weightings in that index. A good example of this company fundamentals (cash flow, book value, phenomenon occurred during the 1999-2000sales and dividends), rather than portfolio tech bubble, when we saw internet company weights derived from the market valuation of share prices surge as a result of the futureshares in issue. We believe that these indices perceived growth these companies were expectedprovide the opportunity to more accurately to generate in this new tech-savvy era. determine those assets with higher returns and As the share price of some of these companies lower risk profiles when compared to traditional took on an almost vertical trajectory, traditionalcap-weighted indices or benchmarks.Issued and distributed inthe UK, on behalf of Invesco indices based on market-cap found their Some indices are constructed using only aPowerShares, by Invescoweightings in such stocks were becoming largersingle measure. At Invesco PowerShares, weAsset Management Limited.and larger keeping in mind that these indices believe in a balanced approach and look forRegistered Address: 30 are derived from the market capitalisation of a those indices which incorporate a range ofFinsbury Square, Londoncompany, which is linked to the share price.corporate fundamentals and therefore provide aEC2A 1AG. Authorised and If the share price increases and in turn itsmore balanced picture of the financial qualityregulated by the Financial market capitalisation, then its weight within and economic opportunity of a particularServices Authority.an index increases too. constituent company. 23. Invesco PowerShares | EXCHANGE TRADED 23undamentalsFundamental measures can Past performance is not a guide tobetter reflect a companys future returns.economic contributionWhen making an investment in an ETF,In contrast to market-cap weighted indices,you are buying shares in a company thatwhich mirror the volatility of stock prices, is listed on a stock exchange. Investmentsfundamental indices assign weights according tocannot be made directly into an index.a companys operating and accounting ETFs share prices are subject to a bid/offerperformance, helping to ensure whats believed tospread, subject to management fees, andbe a more accurate representation of its internalwhilst they seek to track an index, there iseconomy in relation to its place in the index. no guarantee that this will be achieved. Accordingly, ETF investment returns willFundamental indices do not allow the marketbe different to those of the index.to directly dictate the weight a stock receives in Restricted investors: the information inan index so they are less likely to reflect stock this document is designed solely for use inmarket bubbles. This is because a constituent the UK, and complies with regulatorycompanys revenues and dividends are not requirements of this jurisdiction only, anddirectly affected by share price speculation. is not intended for residents of any other countries. The distribution and the offeringFundamentally weighted indices of ETFs in certain jurisdictions may be Are designed to identify the fair value ofrestricted by law. Persons into whose possession this document may come are each company. required to inform themselves about and to Utilise fundamental variables that do not comply with any relevant restrictions. This depend on the fluctuations of market valuation. does not constitute an offer or solicitation by anyone in any jurisdiction in which such Performance may be less influenced by stock an offer is not authorised or to any person market bubbles as index member weights are to who it is unlawful to make such an offer not driven by share price volatility or solicitation. Ordinarily avoid overweighting overvalued Persons interested in acquiring ETFs stocks a potential shortcoming with market should inform themselves as to (i) the legal capitalisation-weighted indices. requirements in the countries of their nationality, residence, ordinary residenceMore efficient indexing of anor domicile: (ii) any foreign exchangeinefficient market controls: and (iii) tax consequences which might be relevant. Cap-weighting has a rich history, but has definite shortcomings.This document is intended for information purposes in regard to the existence and Fundamental indexing seeks to address these potential benefits of investing in ETFs. short comings while maintaining the benefits However, it is not intended to provide of a broad market index. specific investment advice including,It is therefore essential to understand thewithout limitation, investment, financial,construction methodology behind the index that legal, accounting or tax advice, or to makeis being replicated by an Exchange Traded Fund.any recommendations about the suitability of the ETF for the circumstances of any particular investor. You should takeImportant information appropriate advice as to any securities,The price of ETFs and any income will fluctuate, taxation or other legislation affecting youthis may partly be the result of exchange rate prior to investment.fluctuations, and investors may not get backthe full amount invested. 24. 24 EXCHANGE TRADED | The ETF Boom!The ETF revolution is now truly global in almostevery part of the developed world new ETF providers are springing up and ETFs are even threatening to invade the developing world with new launches inplaces as varied as Botswana and Taiwan.The ETFBOOM!By David Stevenson, Investment Columnist, Financial Times G auging just how successful thisETF industry grew [measuring assets] by indexing revolution has become is fairly thirteen fold (13.2x), while the US ETF straightforward, as many of the leadingmarket grew over six-fold (6.5x).issuers of ETFs such as iShares (now owned byThese numbers represent extraordinarygiant US asset management firm Blackrock) andgrowth over the last decade ETFs wereDeutsche Bank (through their DB X trackers unit)closely monitor the market, attempting to spotvirtually non-existent in Europe at thekey trends and generally keeping a watchful eye beginning of this new century and even inon liquidity on exchange. the US they were a tiny niche. Now ETFsare arguably the fastest growing part of theAt the end of June 2011 for instance analysts atwhole global asset management business.Deutsche estimated that the global indextracking industry had reached assets underBy the end of December 2011 the Deutschemanagement of $1.4 trillion globally, with 22%Bank analysts reckoned that there were over(216.4 billion) concentrated in European listed3,210 exchange traded products (funds andfunds. The Deutsche analysts also reckonnotes) of some sort globally of that total ofthat looking at the most recent ten year3,210 products, 2,823 were ETFs and 387period, over the past decade, the Europeaneither ETCs or ETNs. 25. The ETF Boom! | EXCHANGE TRADED 25Which asset classes are popularnow invest globally, in both conventional and Might it notwith ETFs? inflation linked bonds, with issuers as diverseThe table below from Blackrock gives us some as low risk governments through to very highbe better to risk sub investment grade corporate.idea of the key markets favoured by equity invest in thoseinvestors. Unsurprisingly equities of all shapes Crucially the income yields on offer varyand sizes dominate the market although inhugely with low risk short dated government issuers withflows into fixed income securities (bonds) aswell as commodity funds has increased bonds paying as low as 1% (or even lower) through to high yield corporate bond funds the lowestmarkedly over the last few years.paying out not far off 10%. Total expense risk levels and ratios are also very low on these bond trackers,What do exchange traded funds invest in? with no funds charging more than 0.50% andhighest credit YTD change more than a few less than 0.20% pa. ratings asExposure asat Nov 2011 Market in assets under man- But investors also need to think carefully about investing in bond ETFs especially with opposed to thein US BillionAUMshare %agement %Equity 1,067690.4 risky issuers such as emerging marketsmost popular governments and big corporates. Bond indicesNorth America556364.6are deliberately weighted in their compositionbonds?Emerging towards the largest bond issuers not the mostMarkets20413-14.3reliable, credit worthy issuers. This means thatEurope 114 7-5.8 an index in junk corporate bonds for instanceAsia Pacific 795-3.8 is likely to have its heaviest weighting in theGlobal exc US6643.2most traded, most liquid bonds which areGlobal equity483 89likely to be issued by the most indebtedFixed Income 25116 21.1companies. Might it not be better to invest inCommodities196135.7those issuers with the lowest risk levels andAlternative 40-1.2 highest credit ratings as opposed to the mostCurrency81 27.8popular bonds?Data as at end of November 2011 or where updated data is not Commodity ETFsavailable, we utilise the most recent period available.Source: BlackRock Investment Institute, BloombergSmall, specialist index tracking fund specialists such as ETF Securities have prospered hugely in recent years, helped along by a massiveThe Big New Trends in ETF Land increase in funds allocated to commodityThis analysis by BlackRock is enormously funds generally and precious metals inrevealing. It shows that ETFs have becomeparticular. To this day even though gold pricesboth popular and also diverse. Gone are thehave stalled, big gold funds run by the likes ofdays when investors simply used ETFs to access ETF Securities continue to experience massivea large and important stock market inflows of as much as $1 billion every month.index such as the FTSE 100 or the S&P 500. Investors worried by central bank interventionThis data suggests that in recent years investorsin the money markets are betting that eventually inflation will rear its ugly head,have primarily been using ETFs as the building with largely uncontrollable results, sparking ablocks for very diversified portfolios full of massive increase in gold prices. These fearsinnovative strategies and markets. have pushed investors to pump money intoBond ETFsETCs that invest in what is called physical allocated gold. These trackers allow anInvesting in bonds has become popular with investor to buy an allocated share of actualETF investors in recent years. Bonds havephysical gold held in large, secure gold vaultshad a good decade compared to equities inin London, New York and Switzerland. Chargesterms of returns, so a big inflow of funds intoare usually fairly low (well under 0.50% for thebond ETFs shouldnt be terrifically surprising.main funds) and most investors are re-assuredBut that insatiable demand has sparked a by the fact that they own gold assets directlyhuge increase in the variety of bond ETFsunder the control of the fund managers, not aavailable to the private investor - you canlarge investment bank. 26. 26EXCHANGE TRADED | The ETF Boom! InvestorsAt the moment investor interest in more mainstream commodity ETCs has diminished,portfolios in a relatively intelligent, diversifiedway - they dont just buy a few single companyworried by especially as Chinese growth slows down andUK stocks and be done with it, but look to industrial metal prices wane, although its also invest across different country markets as wellcentral bank true that agricultural spot prices have shot upas varying asset classes including bonds, goldintervention recently following the recent poor US grains harvest. But investor interest in commodities isand other commodities. This diversificationmeans that investors will typically want to run in the moneybound to wax and wane over the course of the diversified, multi asset portfolios which will business cycle and talk of a global economic evolve over time. Two key insights stand out markets are recovery will probably result in yet another surge from this observation the first is that good betting thatof interest in commodity tracking funds - these ETCs invest in futures contracts for all mannerdiversification across asset classes makesabsolute sense and in addition that as we groweventually of individual commodities ranging from a broad older, our tolerance of risk changes very group of energy markets (including oil) throughsubstantially, forcing us to change the inflation willto individual trackers for copper or grains. composition of our portfolio. rear its ugly Emerging Market ETFs Imagine you are 20 years old. You are earningjust enough money to put aside say 100 a head.Many investors have woken up to the potentialmonth in a fund that you will stick with for the for solid, long term profits from investing in next 40 years of your working life, but for now emerging and frontier markets. There are many, you want lots and lots of growth in your excellent emerging markets managers alreadyunderlying investments. That means you are operating in the investment trust sector for willing to take on some risk now and the instance including Hugh Young at Aberdeen, long-term data on returns suggest that the Slim Feriani at Advance and Mark Mobius at riskiest, most rewarding of the major asset classes Templeton, but the choice of funds is much are equities. Bonds, by contrast, are possibly a bit bigger within the ETF universe and the costs are boring and safe and although you are probably much lower. Fund managers such as HSBC havenever going to lose more than 20 per cent in any made a point of specialising in these emerging one year (that is called your maximum markets, offering ETFs with lots and lots of drawdown in the trade), equally you are never choice and very low fee structures (the vast going to bag any huge tenbaggers that make your majority of HSBCs product range charges less fortune. In summary, our 20 year-old thrusting than 0.50% per annum) and also boast simpleyoung buck quite sensibly decides that his risk to understand physical tracking structures.tolerance is high and that he wants to stack up Fundamental trackers on equity exposure and go for it in terms of risk. A number of fundamental index tracking funds Flash forward 40 years. Our young buck is now a have also emerged in recent years the keyconsiderably older 60 year old and he knows that insight here is that some investors dont believeretirement is just five years away, so he needs to that the market always put a sensible price on accumulate a large pot of savings capital to last some unloved stocks. Some value investorshim through to his twilight years - he could be would rather invest in an index where theliving through until he is 90 years if current constituents in that index are decided not bylongevity studies are proved right. This means the manic mood swings of the market but by that capital preservation is all important to this their fundamental value, using measures such investor. He absolutely cannot afford a capital loss as the dividend yield (higher yielding stocks areor DRAWDOWN of something like 20 per cent in a bigger percentage of the index) or a one year that means he takes a very negative combination of fundamental factors including view of equities and he is a big fan of bonds. the book value of the companies.How your investment tastes change Where are you in your life cycle?as you get older Perhaps the most important big new This transition in both tolerance of risk and innovation in the world of index tracking fundsawareness of potential returns sits at the heart of is the simplest to understand the multi-assetwhat is called lifecycle analysis. Over those 40 portfolio. Most investors now run theiryears our private investor changes both 27. The ETF Boom! | EXCHANGE TRADED 27physically and in his tolerance of risk and overtime that translates into a big change in theirforward multi-ETF portfolios from the likes ofVanguard where the mixture of (passive) asset Transition inchoice of assets. Early on our investor is sensibly classes is labelled Low Risk or Conservative.both toleranceinterested in equities and probably no bonds, By contrast, our younger investor might bewhereas in their mid 40s they are probablymuch more risk friendly, and be willing to of risk andmaking the shift away from equities into some ride out the volatile equity markets byinvesting in a High risk or Growth/ awarenessbonds and by the mid 50 our investor isprobably biased towards bonds. The simple Adventurous portfolio.of potentialprocess of constructing a mix of assets that canbe used as the building blocks of a singleThe key point is that in these target risk returns sitsfunds, all the equity, bond or alternativeportfolio and can change over time, has evolved asset components for this diversified portfolioat the heartinto something called the glidepath. The graphicconsist of different underlying ETFs or indexbelow shows how this transition starts with tracking funds. The asset classes are then of lifecyclehigh-risk assets, transitions through a balancedapproach in mid life and ends with a mixture ofcombined together to form a diversified, analysis.single portfolio which can be bought as aassets with a bias towards bonds later in life. core investment. Crucially this singleportfolio of ETFs or index tracking funds isusually very low cost (most multi-assetHow a glide path translatesportfolios charge under 0.80% per annum,into a fundwith some offering portfolios for less thanThis blindingly simple analysis has evolved 0.40%) and can be changed as the investorsinto something called a Risk Target fund. Astolerance of risk changes over time i.e. asweve already seen older investors are likely tothey get older they can sell their adventurousbe more risk averse, so they are by definitionportfolio and opt for a more cautious,more conservative in their outlook. Stepconservative Low risk portfolio.The chart below shows a typical glidepath showing changing exposure over a number of years to bonds (lighter brown)and equities (darker brown), with range of different possible allocations indicated by dotted line.Asset Allocation (%) Source: David Stevenson100 80 60 40 Opinions expressed are those of 20David Stevenson, not Alliance Trust Savings Limited. Please read0 the important information at the40 3530 25 201510 50-5 -10 end of this publication.Years until retirement 28. RISK WARNINGSInvestments can go down as well as up and capital is at risk. Tax treatment of ETF/ETCs depends on the individualThe original amount invested may not be returned. circumstances of each investor. The levels and bases of, andany applicable relief from, taxation can change.Past performance is not a guide to future performance.An investment in an ETF/ETC is dependent on theNot all exchange traded funds/ exchange tradedperformance of the underlying index less costs but ancommodities (ETF/ ETC) are suitable for all investors asinvestment is not expected to match that performancesome are high risk and only suitable for sophisticatedprecisely due to the impact of annual fund management fees.investors. Before investing you should fully familiariseyourself with the risk factors associated with a fund. Please The price of any ETF/ETCs traded on the secondary marketrefer to the risk factors section of the Prospectus or thewill depend, on market supply and demand, movements inKey Investor Information Document/ Listings if available. the value of the ETF/ETCs as well as other factors such asThese can be found on our website or the fund managersprevailing financial market, corporate, economic andown website.political conditions.If there are any terms you are unfamiliar with or you are Commodities: If an ETF/ETC provides exposure tounsure of, you may wish to seek financial advice. commodities, investors should bear in mind thatcommodity prices react, among other things, to economicInvestment in ETF/ETCs may expose investors to any or allfactors such as changing supply and demand relationships,of the following risks: risks relating to the relevantweather conditions and other natural events, theunderlying index, credit risks on the provider of indexagricultural, trade, fiscal, monetary, and other policies ofswaps, exchange rate risks, interest rate risks, inflationarygovernments and other unforeseeable events all of whichrisks, and liquidity risks.may affect your investment.Non-UCITS compliant funds: Some of the ETF/ETCsThe Financial Services Compensation Scheme does notavailable through the ATS platform are Non-UCITS Retailcover firms based in the Channel Islands, Isle of Man or inSchemes. These are UK funds that do not comply with allEurope, so ETF/ETCs based there cannot benefit from thethe UCITS rules and, therefore, cannot be promoted acrossprotection offered by the FSCS if a firm or fund should bethe EU. They can, however, be sold to UK retail investors.unable to pay its liabilities. The Key Investor InformationSuch funds can invest in a wider range of eligibleDocument for each fund will specify where it is based.investments than UCITS. If you are unsure whether a fundis UCITS or not please give us a call. If you are unsure of The articles in this magazine are for information only. Theythe implications of this then you may wish to seekare provided by carefully selected contributors and arefinancial advice. published without any representation or endorsement madeby or from us of any kind whether express or implied,Some of the funds have underlying holdings which areincluding but not limited to the opinions expressed,denominated in currencies other than Sterling andappropriateness of any recommendation made, fitness for atherefore may be affected by movements in exchange rates.particular purpose, compatibility with any investmentConsequently, the value of these investments may rise orstrategy or accuracy. We will not be liable for any indirect orfall in line with exchange rates.consequential loss or damage whatever (including withoutInvestments in emerging markets may involve a higherlimitation loss of business, opportunity, data, profits) arisingelement of risk due to less well regulated markets andout of or in connection with your reliance on any article orpolitical and economic instability. the contents of any article contained in this Magazine.ALLIANCE TRUST SAVINGS LTDPO Box 164, 8 West Marketgait, Dundee DD1 9YPTel +44 (0)1382 573737 Fax +44 (0)1382 321183Email contact@alliancetrust.co.uk Web alliancetrustsavings.co.ukAN AWARD WINNING BUSINESSAlliance Trust Savings Limited is registered in Scotland No. SC98767, registered office as stated above; is authorised and regulated by theFinancial Services Authority whose address is 25 The North Colonnade, Canary Wharf, London E14 5HS firm reference number 116115;gives no financial or investment advice. ATS12-422 (December 2012)