Buying NZ top 50 and All Ords

[arcticblue]

Is there any way of buying the NZX50 and ASX All Ords? I'd like to buy an index rather than shares in each company. The only thing I've found so far are the ETF from Smart Shares and these seem to charge a management fee more like a fund than a share. Is smart shares the only place that does an index?

Also is buying an ETF like FNZ the same as buying a share? Do I buy shares someone is selling or are new shares created when I buy and then destroyed when I sell? I'm unsure if I can always sell out at the current price or if I can only sell if there are willing buyers.

Finally it's a bit unclear on how the dividend works, I presume I get a dividend based on the dividends paid out by the individual companies that make up the index. I can't seem to find out if it is actually paid out or if it is capitalized into the share price.

Are there any other things to look out for when buying an ETF compared with a normal share?

[RRR]

Smartshares is the only ETF in NZ unfortunately. Management fees 0.75%/annum(high for ETF). They also have Ozzie funds.

2 ways to buy -
A. Invest an amount every month or as a lump sum and smartshares will buy index shares in the market-no brokerage fees
B. Buy smartshares units in the market(just like buying a share)-brokerage costs each time you buy. Only exchange of units(or shares) here.

Selling units is just like selling any other share(you need a buyer)-Liquidity is not great but decent(like most NZ shares)

Dividends-You can receive cash dividends or opt for DRP. Paid twice a year. For FNZ, the current yield is about 3-4%(after deducting the fees) MZY-about 1.5-2% Others-I dont know

I regularly invest in FNZ/MZY. I dont like the high fees but there is no other ETF option in NZ. When there is a better and low cost ETF, I will ditch them-cant see that happening in a small market like NZ.

I increase the contributions/invest lump sum during market correction.

Boring but decent way to play share market.

[peat]

For the Aussie shares there are a couple of listed entities which provide good exposure to Australia. These are Australian Foundation Investments and Argos Investments. There are also SPDR S&P ASX50 and ASX200 Funds. Also the smartOzzy covers the top 20 Australian shares but is overweight in banks and miners. SmartMOZY covers the Australian Midcaps - those ranked 51-100 in Australia. .
For NZ as you've said the smartFONZ covers the top NZ 50 stocks but theres also the smartMIDZ for the 11th - 42nd stocks and the smartTENZ for just the top10 (but this will be overweight TEL and FBU)
Kingfish is a NZ listed investment fund but this is not indexy enough for what you've said you require.


From reading the Investment Statement for smartShares here : http://www.smartshares.nzx.com/resources/investment_statements/investment_statement%202010.pdf , they are listed so price can fluctuate around their actual value NAV (based on the shares they own) which means there would have to be willing buyers for you to sell. The investment statement says " Smartshares Units can be sold on market through NZX Firms. In this case, no written redemption notice is required. The market price per unit may vary from the net asset value per unit subject to supply and demand on market." They dont buy them back themselves unless you have 500,000 or more of them and invoke a basket Withdrawl.

But to buy them you can either do it through a NZX broker OR apply directly to smartShares and they will provide. I'm not sure if this means they will create new units or not to be honest. I think they may be able to do so in which case they will simply buy more appropriate shares. To be honest I dont think it matters much to an investor. They publish their holding and NAV every day. eg http://findata.co.nz/Markets/NZX/36401/FNZ_NTA_15092010_129955.htm

The dividend can be re-invested as more units or paid out as cash , your choice.

I suppose the main issues are the fee structures and whether you're happy with those... but if you're a small investor its a way of being in the market and diversified , with a good assurance that your investments performance will match the relevant index and the drip feed options are useful for long term ssavers.

[arcticblue]

Thanks for the responses and clarifying how it all works. Yeah I noticed the fee of 0.75% which I thought was steep considering what is required but there don't appear to be any other options at the moment and I don't have the funds to do it myself yet.

It sounds like the easiest way is just to treat them as a share and buy them via directbroking or similar.
FNZ.NZ should get me the NZX 50 and STW.ASX should get me what I want in Oz.

[RRR]

Good on you and all the best.

[peat]

Please make sure you read the section entitled Securities Lending Risk and understand the implications of that as following on from the information given that :

"The Manager intends, subject to amending the Trust Deed, to implement a securities lending programme in the next 12 months. Please refer to page 41 for further information on securities lending." That statement is included for all the specific funds.


It appears to me they are preparing to be allowed to lend the shares held in the funds to third parties. Presumably this is for others to go short (with fees collected but third party risk), or it could mean they are writing options with them in which case there is true risk that the strategy doesnt payoff. Each of these assumed strategies (as they say) exposes them to various risks either thirdparty risk or true speculative risk.

I could be being overly concerned - does anyone else have any comments on this.

[percy]

Please make sure you read the section entitled Securities Lending Risk and understand the implications of that as following on from the information given that :

"The Manager intends, subject to amending the Trust Deed, to implement a securities lending programme in the next 12 months. Please refer to page 41 for further information on securities lending." That statement is included for all the specific funds.


It appears to me they are preparing to be allowed to lend the shares held in the funds to third parties. Presumably this is for others to go short (with fees collected but third party risk), or it could mean they are writing options with them in which case there is true risk that the strategy doesnt payoff. Each of these assumed strategies (as they say) exposes them to various risks either thirdparty risk or true speculative risk.

I could be being overly concerned - does anyone else have any comments on this.





Would seem to me to place the word risk into what was a very safe investment.

[CJ]

Are they using investors money to create liquidity for others to go short so that the fund manager (ie. NZX) increases its profits?

How many conflicts of interest does the NZX have?

[peat]

Would seem to me to place the word risk into what was a very safe investment.

In a way the lending for other people to short makes some sense especially if third party risk insurance was taken out and this cost was less than the revenue generated.
But IF the writing of (covered call) options was done on the funds own behalf then yes I agree with you. Nassim taleb describes the risks of this strategy in his http://www.fooledbyrandomness.com/Technicalpapers.pdf on page 10 as :


Covered Calls Writing: Investors have long engaged in
the “covered write” strategies in which the operator
sells an option against his portfolio which increases the
probability of a profit in return for a reduction of the
upside. There is an abundant empirical literature on
covered writes (see Board, Sutcliffe and Patrinos, 2000,
for a review, and Whaley, 2002 for a recent utilitybased
explanation) in which fund managers find gains
in utility from capping payoffs as the marginal utility of
gains decreases at a higher asset price. Indeed the fact
that individual investors sell options at cheaper than
their actuarial value can only be explained by the utility
effect. As to a mutual fund manager, doing such
“covered writing” against their portfolio increases the
probability of beating the index in the short run, but
subjects them to long term underperformance as they will
give back such outperformance during large rallies.

I am dubious they would do this.... I think the first option is more likely (as they are not expected to beat the index ) but it would be good to know for sure.
The problem with either of these possibilities is that while the risk is being increased for the investors the fees are staying the same for smaller investors (I think they reduced management fees for very large investors)
Theoretically the better they can do of course thats good as long as these benefits are passed on.

[arcticblue]

Thanks for pointing that out Peat. Upon more detailed reading it appears to greatly increase the risk. I couldn't find much info on how the possible profits of the 'lending securities programme' were going to be distributed but it did make mention of further 3rd party costs to manage the programme. From this it seems like the ones with the most to gain are smartshares/NZX since it would appear I will be taking the possible losses as well as mangement fee as well and it doesn't explicitly state I will get all the remaining profits, should there be any after the unspecified 3rd party management fee is taken.

I had assumed that because Smartshares was a wholly owned subsidiary of NZX that the chance of it going bankrupt was pretty low so the chance of me losing my investment that way was also low. However the extra risks Peat has pointed out lead me to believe these ETFs aren't quite as attractive as they first appeared.

[peat]

I couldn't find much info on how the possible profits of the 'lending securities programme' were going to be distributed but it did make mention of further 3rd party costs to manage the programme. From this it seems like the ones with the most to gain are smartshares/NZX since it would appear I will be taking the possible losses as well as mangement fee as well and it doesn't explicitly state I will get all the remaining profits, should there be any after the unspecified 3rd party management fee is taken.

yes exactly.... it really does appear as though they are just 'slipping in' the amendment to the Trust Deed hoping no one will notice so they can increase their skimming off the top doesnt it.
Of course you could email them (Smartshares) and ask or even put the question to the named Trustee and see what they have to say though I suppose they have no more clue than you or I , they simply know the bounds of their duties and they will either be allowed to relinquish the stock or not. But smartshares might be keen to clarify this point on the basis that if this issue is left open like it is now then the only conclusion we can draw (in view of the potential risk) is the worst one.

edit : I'm intrigued enough myself so I've sent off an email to smartshares@smartshares.co.nz myself.

[arcticblue]

It would be great if you could post the response you get so we can all know what their plan is.

[Jay]

I would also like to see the response having bought some a little while ago!

[Lego_Man]

75 basis points is a ripoff...

[peat]

they have replied saying

We are putting some information together for you regarding this and will get back to you shortly. We take questions about such matters extremely seriously as we want to assure our investors that every step has been taken to protect their assets. Therefore we would like to provide you with a thorough explanation of securities lending and how it will affect the fund

they say they will send me this info tomorrow

[Jay]

Thanks peat for keeping us updated

[RRR]

Article in NZherald today-

http://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=10675271

Thanks peat for your work.

[RRR]

Another article of interest.

http://www.cnbc.com/id/39309280

[Jay]

Hmm... so outside of managed funds what is the alternative if you want a mainly hands off approach for an initial small outlay.
I spilt my investment (for my 3 year old son) between Smartshares and GMI

[whirly]

I think someone else may have already mentioned TEM Templeton Emerging Markets. Buying as the price comes back up thru the 90ma has worked for me so far and allows time in between to save more cash. Whether this will continue to work who knows, so it cannot be considered a hands off investment.

[peat]

For completeness there is the full transcript of the email below I'll attach the doc's if I can (edit - only the notice was able to be attached - you'll have to wait and get their new investment statement online)


My summary of the situation
They will be authorized to lend up to %50 of the funds shares to NZCL a clearing house operator launched by NZX and then later to bilateral parties (described as NZX Market Participants)
Only NZ funds are operating at this stage also due to some initial complication. But the regulations allow the OZ funds to lend.
Options strategy are not part of the proposal
Smartshares and others will clip the ticket though it will still probably be cash positive for the fund to paticipate in the lending.
The risks would appear to be purely third party and operational rather than financial. So theoretically all market risk is assumed by others.
My take on it is that they smartShares are acting prudently enough in the pursuit of maximizing the gain from holding stock but whether its worth the very small risk in having the funds assets exposed to third party risk for the presumably quite small gains it will create after all the conductors have a clip is debateable.
I wonder if when you're buying quality (and these top 10 and top 50 companies will mostly be quality) its best not introduce to much of this unlikely but potentially nasty risk into the equation.
In the worst case scenario a fund could lose 50% from counterparty failure. Thats more likely in some ways than 50% of the companies in the funds pool going belly up I think. (Tho not as likely as share prices falling 50% at some stage).
Its a bit of an unquantifiable risk imo, probably infintesimal but maybe not.




peat
Many thanks for your note. We are pleased that potential investors take the time to read our documentation properly. It’s important for all investors to understand the nature of the products they are investing in fully and we encourage people to ask questions where aspects appear unclear.

In relation to securities lending the amendments to the Trust Deeds contemplate two types of permissible lending:
1. Lending through a central clearing house; and
2. Lending to NZX market participants bilaterally

It is important to note that at this stage the nature of the Funds’ agreements with the Trustees and the Securities Commission means that they are only conducting lending through the clearing house and will not in the immediate future be lending to individual participants bilaterally.

What does lending through a central clearing house mean? NZX has launched a central counterparty clearing and settlement system which has become the central counterparty for the settlement of trades of financial products on NZX’s market. At the beginning of each day the settlement system creates a lending pool of identified securities, which the Funds are now contributing to, and participants in the system can request to borrow stocks to help them meet their settlement obligations. Immediately after creation the lending transactions are novated and replaced with individual contracts with the Clearing House Operator (CHO) i.e. CHO acts as a central counterparty to both sides.

The net effect of this is that the funds are effectively lending to CHO rather that the underlying market participant and all settlement obligations reside with CHO. Therefore all borrower and settlement risk is replaced with the risk associated with the possible failure of the central counter party system. As I am sure you will be aware the clearing and settlement system was recently brought into existence by the passing of the relevant legislation by the Government and risk of failure of the system is mitigated by ongoing prudential oversight arrangements by the Reserve Bank.

Those participants borrowing stock will pay a fee to the lender calculated by reference to an interest rate which will be based on the value of the Official Cash Rate. The additional income receivable from securities lending will be accumulated daily into the value of the Fund and therefore represented in its daily NTA. It will then be distributed as per all other income in the Funds’ half yearly dividend payments. The Manager will be entitled to receive fees for administering the lending programme however those fees will be based on a proportion of revenue received to ensure that the programme is always revenue positive for investors.

As you will be able to see the terms under which the Funds are able to lend have been agreed in a highly prescriptive form so as to provide comfort to Trustees, the Securities Commission and, most importantly, investors that all precautions have been put in place to ensure risks are mitigated as far as possible. The Funds will not be in a position to lend other than as prescribed and nor would they wish to do so. They certainly would not want to be in a position to engage in some sort of option writing strategy where risk is retained. We do not believe in financial “whizz tricks” either and have recently updated our offer documentation specifically to explain the nature of the lending permissible and define the risks involved (see attached). This document has just being rolled over and as such we do not have a designed copy however it will be available soon. We also recently made the attached announcement to the NZX Market Announcement Platform and a letter is being sent to all unitholders explaining stock lending in greater detail.

I hope this goes along way to answering your query (along with the updated offer documentation and the market announcement attached) however we appreciate there is quite a lot to take in so please feel free to follow up if there are aspects that still remain unclear.

Thanks and regards

James F

On 21 September 2010 16:09, NZX Smartshares <smartshares@nzx.com (smartshares@nzx.com)> wrote:
Hi peat

Thank you for you email regarding the changes to the Trust Deed. We are putting some information together for you regarding this and will get back to you shortly. We take questions about such matters extremely seriously as we want to assure our investors that every step has been taken to protect their assets. Therefore we would like to provide you with a thorough explanation of securities lending and how it will affect the fund. I will look to send you and email tomorrow.

Please let me know if you have any questions in the mean time.

Regards
James

On 20 September 2010 18:01, peat wrote:
Hi
Your investment statement for the various smartShare funds advises about a change to the Trust deed allowing the shares to be lent
I quote "The Manager intends, subject to amending the Trust Deed, to implement a securities lending programme in the next 12 months. Please refer to page 41 for further information on securities lending."
That statement is included for all the specific funds. It then goes on to advise on pg 41 about the risks of lending the shares such as third party risk, operational risk etc.
The ramifications of what this means are unclear or at least open to interpretation and thus could lead to harmful speculation regarding the safety of investing in smartShares. Also it is never made clear how exactly the unitholders will benefit from this lending.
I can understand how lending stock will generate revenue if none of the (presumably speculative ) borrowers risk is taken on board by smartShares, but I wonder whether the Trust Deed Amendments are also allowing smartShares itself to participate in some sort of option writing strategy where the risk is retained.
I guess it makes unitholders nervous to think that financial whizz-tricks are being performed with the shares that their investment funds have effectively purchased and I’m putting forward the idea that even the suggestion of this undefined added risk could intimidate investors and thus reduce your custom.
Perhaps you would care to elaborate on your intentions.
Regards
peat

[CJ]

Therefore all borrower and settlement risk is replaced with the risk associated with the possible failure of the central counter party system. As I am sure you will be aware the clearing and settlement system was recently brought into existence by the passing of the relevant legislation by the Government and risk of failure of the system is mitigated by ongoing prudential oversight arrangements by the Reserve Bank.


The Manager will be entitled to receive fees for administering the lending programme however those fees will be based on a proportion of revenue received to ensure that the programme is always revenue positive for investors.
These appear to be the main two points.

Win/win from a revenue point of view for NZX/Shareholders but the funds are essentially facilitating speculators pushing down the NTA of the fund and therefore the shareprice. i guess this will happen anyway so we may as well clip the ticket on the way while hoping that most get it wrong.

[arcticblue]

Thanks Peat for keeping us all updated on the response. It is a better response than my initial thoughts on what it meant but it still increases the risk, now I just need to try and assess just how much extra risk it is. My initial thoughts say the risk is pretty small but I guess others here might be able to enlighten us on possible downsides and the likeliness of it occurring.

I guess the biggest loss would be if 50% was loaned out and the clearing house operator went bankrupt and nothing could be recouped. How likely that is I don't know.

[CJ]

I guess the biggest loss would be if 50% was loaned out and the clearing house operator went bankrupt and nothing could be recouped. How likely that is I don't know.Kind of like a CDO. How unlikely would it be that so many mortgages would default bankrupting a CDO provider. ;)