It's something of a cliche these days to talk about the slicing and dicing of the ETF market, but who wields the knife?
That would be the index providers creating and maintaining the benchmarks the industry relies on.
While traditional stock indexes weigh companies by market capitalization (S&P 500) or price (Dow Jones), newer offerings continue to capitalize on the alternative weighting trend.
For ETF providers, that means choosing among a wealth of options for the indexing solution that best meets their clients' needs.
"People are looking at ways to use index and passive investing to gain exposure to themes in the marketplace," said Kevin Kollar, managing director of FTSE North America. The company's indexes are tracked by 114 North American ETFs -- nearly double the number three years ago -- with $156.7 billion in assets. Indexing is big business. In the first half of 2014, MSCI Inc. led index providers in gathering global investment dollars.
Equity ETFs based on its indexes drew $29 billion in net new assets, or 34% of a total of $86 billion.
In the U.S., $1.48 trillion in ETF assets are benchmarked against equity indexes, according to ETF.com. Of roughly 70 equity index providers in the stock market today , the top six account for 85% of all ETF assets. The top two -- S&P and MSCI -- account for 53%.
Strong Points
While most index providers strive to produce well-constructed benchmarks, publish them daily and make them readily available, they play to different strengths. Indexing giants MSCI and FTSE, for example, are renowned for their global operations and products.
"We offer our clients a globally consistent view; there are no gaps or overlaps," said Baer Pettit, managing director of MSCI's index division. This lets investors take advantage of evolving investing opportunities worldwide, he adds.
"We allow market participants from money managers to people who trade our indices and the asset-owning community to define the rules associated with how index construction is actually done," FTSE's Kollar said.
Meanwhile, smaller players are making a mark in alternative approaches to indexing. Research Affiliates Fundamental Indexing, known as RAFI, uses a composite measure of a company's sales, cash flow, book value and dividends.
WisdomTree's smart beta indexes screen stocks for fewer variables, such as positive earnings and dividend payouts.
Typically, the differences among rival indexing methodologies can be subtle, says Michael Iachini, managing director of ETF research at Charles Schwab .
For example, while S&P's MidCap 400 Index has no overlap with its large- and small-cap indexes, the Russell Midcap Index is carved out of the Russell 1000 and the Russell 3000 indexes. "The ultimate impact isn't that great, though," Iachini said. "Index providers have performed pretty similarly over the last 20 years or so."
For companies looking to license an index, choosing among index providers can boil down to contract needs such as the index's availability to license and the terms and costs of licensing. The index provider is paid a flat fee or, more typically, a percentage of assets under management.
"ETF providers are more focused on saving investors money than on using a specific index provider," Iachini said.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
