In January this year, ETF provider Lyxor changed the benchmark tracked by one its European large cap equity ETFs from MSCI Europe to the Stoxx Europe 600. As part of the change, the ETF also changed name and ticker from the MSCI Europe to the STOXX Europe 600. The change was prompted by a re-shuffling of Lyxor’s product range. The costs and disruption caused by closing one fund and opening another were side-stepped by simply changing the benchmark of the existing ETF.
Changes may leave investors asking; how does this affect me?
Changes like these are more common than one might think and may leave investors asking; “how does this affect me?”
A change in benchmark primarily impacts those already holding the fund. Investors will typically be informed well in advance, to allow them to re-evaluate their investment position. However, as ETFs are traded throughout the day on exchange, individual investors are not generally known to providers, and are therefore not directly contactable.
ETF providers will normally announce changes via press releases, which are typically published in their websites. Investors should regularly monitor these communications to avoid unwelcome surprises. One way to do this, is to subscribe to e-mail updates from providers where possible.
Once informed of an impending change, investors should evaluate whether the new index continues to satisfy their investment objectives.
In the Lyxor ETF case at hand, although both indices are market cap weighted and track large-cap European equity, there are differences that should be noted. Most notably, the Eurostoxx 600 index is broader, holding around 160 more stocks than the MSCI Europe index. In terms of the country exposure, both indices maintain similar weightings, but the Eurostoxx 600 index provides exposure - albeit fractional - to companies from the Czech Republic and Greece.
In this, and other similar cases, investors must weigh up the potential impact on exposure – and thus performance – against the transactions costs which would be incurred by switching to an alternative investment.
ETFs can change benchmarks for a variety of reasons. In some instances the decision is taken on purely commercial grounds. For example, in 2012, Vanguard moved to reduce index licencing costs by switching MSCI for FTSE indices for some of its biggest passive funds for example both ETFs and index funds.
In other cases, the switch is justified in order to fine-tune exposure. In fixed income, for example, there have been instances where ETFs started off tracking broad benchmarks only to realise that a great deal of components were not liquid. The ETFs then switch to benchmarks produced by the same companies but only encompassing the liquid elements of the underlying market such as Markit broad vs Markit liquid indices. These changes may allow fund providers to more accurately and cheaply replicate the underlying index.
The above are examples of index changes that may be beneficial to investors, as lower costs, whether licensing or in replication, may ultimately be passed on.
Another well publicised example from several years ago saw Lyxor switch benchmarks for some of its Eurozone government fixed income ETFs. Initially, the ETFs tracked EuroMTS indices with no rating discrimination i.e. they included all Eurozone issuers irrespective of rating.
When the debt crisis began to escalate back in 2010 and 2011, many investors in these ETFs found to their horror that they were exposed to Greek debt, which severely dragged the ETF’s performance. Lyxor responded by switching to benchmarks with rating discrimination, whereby non-investment grade sovereigns such as Greece and Portugal were excluded.
Irrespective of the reason for a change, investors must never overlook that the performance of an ETF is ultimately determined by that of the index the provider chooses to track. Paramount in the selection of an ETF – not to mention in the decision to keep it or otherwise in the event of a change – is the thorough understanding of indices.
