LYXOR ETF Risk Balanced ETFs

Transcription

1 Committed to Transparency, Liquidity and Efficiency LYXOR ETF Risk Balanced ETFs A better balance of risk and performance OCTOBER 2014 This communication is for retail clients in the UK

2 A NEW GENERATION OF Risk Balanced ETFs The LYXOR ETF MSCI World Risk Weighted uses a new generation of Risk Weighted Index, which balances its component assets not as a function of size like a traditional Market Cap weighted Index, but according to the level of risk represented by each company. This innovative approach has a simple aim; to improve diversification and reduce the overall level of risk within the investment portfolio. This style of Risk Weighted Index is fully consistent with Lyxor s approach to indexing; providing a robust weighting methodology, which preserves every component of the original investment universe. As such, these indices not only enhance diversification, but they do it without compromising the essential qualities of transparency and simplicity. The MSCI World Risk Weighted Index used in the LYXOR ETF MSCI World Risk Weighted tracks the same universe of securities as the MSCI World index, but aims to reduce risk in the portfolio by weighting each constituent of the index according to its risk, as measured by variance: the higher the risk of a constituent, the lower its weight. What do we mean by Volatility? Volatility (or variance, which is strongly related) are statistical measures that look at how much the price of an asset typically moves over a defined period. High volatility means that the price typically moves erratically, and there is very little certainty about where the price may be in the future. In contrast, low volatility means that the price does not move dramatically and changes in the value are steadier and more certain over a period of time. Importantly, volatility is considered to generally increase as markets fall, and generally decrease as markets rise. >>2

3 WHY DIVERSIFICATION IS MORE IMPORTANT NOW THAN EVER Against the backdrop of increasingly volatile markets, and diminishing opportunities to out perform the market, many investors are opting to pursue a low cost strategy using index tracking products to build diversification into their portfolio. However, not all indices are as diversified as they may seem. Traditional market-cap weighted indices can concentrate risk and performance over a limited number of stocks, which create biases in the Index to certain sectors or geographies. The top 50 stocks of the MSCI World Index for example are responsible for over 27% of the performance of the whole index.* With that a large part of the performance is skewed to Financial, Consumer Discretionary and IT companies, which are typically more volatile. This has left many investors looking for an alternative index which provides greater diversification across the whole universe of stocks. *Source: MSCI, September 30th, 2014 By concentrating risk on a limited number of components, cap-weighted indexing contributed to the volatility that has pounded investor s portfolios during the last decade s financial crises, without any long-term return in exchange. Thierry Roncalli, Head of R&D, Lyxor Asset Management A NEW GENERATION OF RISK-BALANCED INDICES The limitations of market cap-weighted indices have given rise to a new generation of risk-balanced indices, which aim to lower portfolio risk by weighting assets not as a function of size, but as a function of their contribution to risk in the portfolio. There are many different solutions available to achieve this goal, but not all can maintain the fundamental qualities of effective indexing; transparency, representation and simplicity. The Risk Weighted Indices utilised in the new generation of Lyxor risk balanced ETFs can help investors to diversify risk across the portfolio, lower volatility and generate consistent returns. These indices can provide a robust weighting methodology, which is free from arbitrary investment constraints, and preserves exposure to each component of the original investment universe. >>3

4 The main types of Index weightings Traditional Indices Risk Balanced Indices Market Cap Equal Weight Minimum Volatility Risk Weighted Equal Risk Representation* Full Full Partial (10 to 20%) Full Full Weighting Market cap of stocks Number of stocks Volatility & Correlation - Minimum Variance Volatility - Inverse of risk Volatility & Correlation - Equal Risk budget Weight Concentration High Equal distribution High Balanced portfolio Balanced portfolio Risk Concentration** Yes Moderate Yes Moderate No Risk Level High High Low Low Limited Tracking Error - Low High Limited Low Discretionary Constraint No No Yes Few No Source: Lyxor *Representation: index universe compared to the equivalent market cap index **Risk concentration measures the distribution of risk between the constituents of the portfolio >>4

5 THE MSCI World Risk Weighted INDEX The traditional MSCI World index is a well known and highly traded index which provides access to developed markets across the world. By virtue of its global nature, the universe of stocks is considerable. At the time of writing in October, 2014, there were 1,615 individual companies included in the MSCI World Index, which on the surface suggests a highly diversified index. However, as is the case for many market-cap weighted indices, the MSCI World Index weights 9.51% of exposure to the 10 largest stocks, and 27.73% to the top 50*. This means that the performance of the MSCI World index is dominated by just over 3% of the stocks in the index. More importantly, the MSCI World Index is weighted towards higher risk sectors such as Financials (20.8%) and IT (12.98%). For investors this means that risk is highly concentrated, and focused on relatively volatile sectors where the potential for more erratic price movements, and large losses can be greater. If market sentiment turns and these stocks fall it will have a significant impact on the performance of the Index. A SIMPLE RISK WEIGHTED ALternatiVE In response to this over concentration of risk around the largest stocks, MSCI launched an alternative Index called the MSCI Risk Weighted Index ( The Index ). This index tracks the same universe of securities as the MSCI World index; however, it aims to reduce risk in the portfolio by weighting each constituent stock according to risk, as measured by its variance: the higher the risk for a stock, the lower its weight in the Index. By reducing exposure to the relatively more volatile stocks the Index aims to reduce the overall volatility of the index, and therefore the risk profile of the portfolio. The top 10 stocks in the Index only account for 2.49% of the Index weighting, and the top 50 stocks just 9.95%.* As such, risk is distributed more evenly across the portfolio, and each individual stock has less impact on the performance of the Index, creating a more defensive profile than the MSCI World Index. HOW DOES THE MSCI WORLD RISK WEIGHTED INDEX MANAGE PORTFOLIO WEIGHTS? The Index methodology is perhaps the simplest of all risk-balanced Indices. The Index takes the same universe of stocks as the MSCI World Index. Each stock is inversely weighted according to its contribution to risk as determined by a statistical measure called variance. To establish how volatile each stock is, the Index looks at the weekly variation of returns for each stock over a 3 year period. By looking at weekly returns, and 3 years of data, costs are kept low as stock turnover is reduced. The index is re-balanced twice per year to ensure that effective stockweights can be maintained without impacting performance or re-balancing costs. Universe >> Entire index universe of the MSCI World Index Weighting >> Constituent weights are inversely proportional to risk re-balancing >> Semi annual re-balancing *Source: MSCI, September 30th, >>5

6 Comparing the MSCI Risk Weighted Index with the MSCI World MSCI World Risk Weighted Index MSCI World Index Top 50 stock weight (%) Top 10 stock weight (%) Largest stock BCE Inc (0.46%) Apple (1.86%) Source: MSCI, September 30th, 2014 Exposure to top 10 stocks The composition of the top 10 stocks of the Index is very different to the MSCI World with only Johnson and Johnson appearing in the top 10 for both Indices. MSCI World Risk Weighted Index % Weight BCE INC 0.46 PEPSICO 0.25 JOHNSON & JOHNSON 0.24 FIRST CAPITAL REALTY INC 0.23 FORTIS 0.23 BANK MONTREAL 0.22 TRANSCANADA CORP 0.22 CANADIAN IMPERIAL BANK 0.22 CLP HOLDINGS 0.21 SINGAPORE PRESS HLDG 0.21 Source: MSCI, September 30th, 2014 MSCI World Index % Weight APPLE INC 1.86 EXXON MOBIL CORP 1.23 MICROSOFT CORP 1.11 JOHNSON & JOHNSON 0.92 WELLS FARGO & CO 0.79 GENERAL ELECTRIC CO 0.79 NESTLE 0.72 JP MORGAN CHASE & CO 0.70 CHEVRON CORP 0.69 PROCTER & GAMBLE CO 0.69 Source: MSCI, September 30th, 2014 Exposure by sector Although the exposure to the Financial sector is only slightly lower in the Index, the higher weights to Industrials and Consumer staples and the lower weighting to Information Technology companies aim to reduce volatility. MSCI World Risk Weighted Index MSCI World Index Financials Financials 20.8 Industrials Information Technology Consumer Discretionary Health Care Consumer Staples Consumer Discretionary Health Care 8.56 Industrials Utilities 8.16 Consumer Staples 9.69 Information Technology 6.89 Energy 9.34 Materials 6.08 Materials 5.45 Energy 5.55 Telecommunication Services 3.45 Telecommunication Services 3.62 Utilities % 5% 10% 15% 20% 25% 0% 5% 10% 15% 20% 25% Source: MSCI, September 30th, 2014 Source: MSCI, September 30th, 2014 >>6

7 Exposure by geography The Index is more diversified across the different geographies. The Index is less exposed to US companies at 41.27% of the Index versus 56.39% in the MSCI World Index. Conversely, Japan and Canada have a higher weighting in the Index than the traditional MSCI World Index. MSCI World Risk Weighted Index MSCI World Index 18.83% 22.23% 3.90% 5.20% 6.83% 9% 41.27% 4.24% 8.26% 56.39% 8.68% 15.78% 8.39% UNITED STATES UNITED KINGDOM UNITED STATES CANADA JAPAN AUSTRALIA UNITED KINGDOM FRANCE CANADA OTHER JAPAN OTHER Source: MSCI, September 30th, 2014 Source: MSCI, September 30th, 2014 >>7

8 INDEX PERFORMANCE COMPARISON The aim of the MSCI Risk Weighted Index is to create a more defensive profile than the MSCI World Index by reducing the Indices exposure to the relatively more volatile, and riskier stocks within the Index. As such, the MSCI Risk Weighted Index should be less volatile and offer a better risk-adjusted performance compared to the MSCI World Index. This is largely supported by the graph on page 9 which uses simulated performance data for each Index between September 1999 and September When markets fell following the Financial Crisis in 2008 the MSCI Risk Weighted Index did not fall as far as the MSCI World Index. This is not to say that this is purely a bear market Index. As the graph shows, the MSCI Risk Weighted Index has also out-performed the MSCI World Index in a rising market. In fact, according to the simulated data, the average annual performance of the MSCI World Risk Weighted has been more than 1.5% higher than the MSCI World Index since September 2004.* Also, when we look at the Average Annual Volatility of each Index, we can see that the MSCI Risk Weighted Index was also 0.95% less volatile since September 2004, which means that the price remained more stable over this period than the MSCI World Index. This is further supported by the Maximum Loss data over the period between October 31st 2007 and March 9th 2009 which shows that losses on the Risk Weighted Index were 2.63% lower than that of the MSCI World Index. Source: MSCI, September 30th, 2014 >>8

9 CUMULATIVE PERFORMANCE of the MSCI Risk Weighted Vs MSCI World INDICES (SEP SEP 2014) MSCI World Risk Weighted MSCI World Sep 99 Dec 00 Mar 02 Jun 03 Sep 04 Dec 05 Mar 07 Jun 08 Sep 09 Dec 10 Mar 12 Jun 13 Sep 14 Source: MSCI, September 30th, 2014 MSCI World Risk Weighted Index MSCI World Index Annualised Returns 9.28% 7.71% Average Annual Volatility 15.13% 16.08% Source: MSCI, September 30th, Observed period is the previous 10 years. PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS. IT SHOULD NOT BE ASSUMED THAT THE PERFORMANCE OF THE INDEX IN THE FUTURE WILL BE COMPA RABLE TO THE PERFORMANCE INFORMATION PRESENTED HERE. Performance data is partly the result of simulations. FROM SEPTEMBER 30TH, 1999 TO APRIL 5th, 2011, RETURNS FOR THE MSCI Risk Weighted index HAVE BEEN CALCULATED BASED ON HISTORICAL SIMULATIONS. ACTUAL RETURNS START ON APRIL 6TH, SOURCE: MSCI, SEPTEMBER 30TH, When the MSCI Risk Weighted will not work The key risk for the Index is that it has a lower weighting to relatively more volatile sectors such as Financials and Information Technology in comparison to the MSCI World Index. Although this is a positive attribute in terms of reducing risk in the portfolio, it does also mean that the Index may underperform the original MSCI World Index in periods where these more volatile stocks are rising strongly. This is because the lower weightings mean that the performance of these stocks has less impact on the performance of the Index than they would in the original MSCI World Index. >>9

10 THE LYXOR UCITS ETF MSCI WORLD RISK WEIGHTED The Lyxor MSCI World Risk Weighted Exchange Traded Fund is a UCITS eligible fund that aims to track the performance of the MSCI World Risk Weighted Index in GBp or USD. The price of the ETF will rise and fall throughout the trading day in line with the MSCI World Risk Weighted Index. Capital is at risk in the same way as a direct investment in the MSCI World Risk Weighted Index. It is listed on the London Stock Exchange, and can be traded like a share during market hours ( ). As a truly passive investment vehicle, the Lyxor ETF MSCI World Risk Weighted can provide a cost efficient, transparent and flexible way to gain access to the MSCI World Risk Weighted Index. ETF product name Lyxor ETF MSCI World Risk Weighted Currency GBp USD Epic code WDRL WLDR Total Expense Ratio p.a. 0.45% 0.45% INDEX TRACKING The Lyxor UCITS ETF MSCI World Risk Weighted tracks its index through the use of a Performance Swap. A Performance Swap is a contractual agreement which is negotiated over-the-counter (OTC) between two parties: the ETF and the investment bank issuing the Swap. Under the terms of the Swap, the investment bank commits to pay the precise daily performance of the MSCI Risk Weighted Index, including any dividends to the Lyxor ETF. In return, the Lyxor ETF pays a fee to the investment bank, and the performance of its physical assets, including any dividends. This means that before taxes and replication costs, the daily performance of the ETF is a precise replication of the Index. The performance of each fund is secured by a basket of UCITS eligible physical assets that are held in a segregated account as collateral for the fund. FUND HOLDINGS The physical assets held in a Lyxor ETF have no impact on the performance of the fund, and as such, they can be different to that of the Index. This means that regardless of the Index, Lyxor ETFs can restrict the securities held by the ETF to highly liquid, high quality UCITS eligible stocks. The result is that the physical stocks held in Lyxor s range can be more liquid, and better diversified than those of the indices that they follow. All directly owned securities, counterparty risk levels, effective tracking errors and management fees are published daily on our website. >>10

11 WHAT ARE THE MAIN RISKS TO BE AWARE OF? ETFs may be suitable for different types of investors in the UK, ranging from retail investors to institutional fund managers. Essentially an ETF has a simple risk profile; its value will rise and fall in line with the Benchmark Index that it tracks. Capital at Risk Replication Risk ETFs are tracking instruments: Their risk profile is similar to a direct investment in the Benchmark Index. Investors capital is fully at risk and investors may not get back the amount originally invested. The fund objectives might not be reached due to unexpected events on the underlying markets which will impact the Benchmark Index calculation and the efficient fund replication. Counterparty Risk Underlying Risk Investors may be exposed to risks resulting from the use of an OTC Swap with Societe Generale. Physical ETFs may have Counterparty Risk resulting from the use of a Securities Lending Programme. The Benchmark Index of a Lyxor ETF may be complex and volatile. Currency Risk Liquidity Risk ETFs may be exposed to currency risk if the ETF is denominated in a currency different to that of the Index that it tracks. The Benchmark Index may be exposed to Currency Risk if it is denominated in a currency different to that of the constituents of the Benchmark Index. This means that exchange rate fluctuations could have a negative or positive effect on returns. On-exchange liquidity may be limited as a result of a suspension in the underlying market represented by the Benchmark Index tracked by the ETF; a failure in the systems of one of the relevant stock exchanges, Societe Generale or other Market Maker systems; or an abnormal trading situation or event. >>11

12 THIS COMMUNICATION IS FOR RETAIL CLIENTS IN THE UK This document is issued in the U.K. by the London Branch of Societe Generale. Societe Generale is a French credit institution (bank) authorised in France by the Autorité de Contrôle Prudentiel et de Résolution (the French Prudential Control and Resolution Authority) and the Prudential Regulation Authority and subject to limited regulation in the UK by the Financial Conduct Authority and Prudential Regulation Authority. Details about the extent of our authorisation and regulation by the Prudential Regulation Authority, and regulation by the Financial Conduct Authority are available from us on request. Although information contained herein is from sources believed to be reliable, Societe Generale makes no representation or warranty regarding the accuracy of any information. Any reproduction, disclosure or dissemination of these materials is prohibited. The products described within this document are not suitable for everyone. Investors capital is at risk. Investors should not deal in these products unless they understand their nature and the extent of their exposure to risk. The value of the product can go down as well as up and can be subject to volatility due to factors such as price changes in the Benchmark Index and interest rates. Prior to any investment in these products, you should make your own appraisal of the risks from a financial, legal and tax perspective, without relying exclusively on the information provided by us. We recommend that you consult your own independent professional advisors. The securities can be neither offered nor transferred in the United States. Lyxor ETFs referred to in this document are open-ended mutual investment funds established under French Law and approved by the Autorité des Marchés Financiers (the French Financial Markets Authority). The funds are UCITS compliant and are recognised under S.264 of the Financial Services and Markets Act 2000 and may be promoted to retail investors in the UK. All gains on the sale of Lyxor ETFs shares and dividend distributions made by Lyxor ETFs may be subject to tax on the basis of applicable tax regulations. Investors must seek their own tax advice for any further information. The ETF may be denominated in a currency different to that of the Benchmark Index that it tracks, which means that exchange rate fluctuations could have a negative effect on returns. INDEX DISCLAIMER The MSCI indexes are the exclusive property of Morgan Stanley Capital International Inc. ( MSCI ). MSCI and the MSCI Indexes are service mark(s) of MSCI or its affiliates and have been licensed for use for certain purposes by Lyxor. Any funds referred to herein have not been passed on by MSCI, any of its affiliates or any other party involved in, or related to, making or compiling any MSCI index as to their legality or suitability, and are not issued, sponsored, endorsed, sold, managed or promoted by MSCI, any of its affiliates or any other party involved in, or related to, making or compiling any MSCI index, none of which makes any warranties or bears any liability with respect to any funds referred to herein. The Prospectus contains a more detailed description of the limited relationship MSCI has with Lyxor and any related funds. The indices sponsor does not under any circumstances provide any guarantee, whether explicitly or implicitly, as to the data linked to the index, as well as to its quality, accuracy and/or completeness, or concerning the financial rating of any issuing entity and has no responsibility resulting from the use of the index and/or its composition. The indices sponsor cannot be held liable for any reason whatsoever in terms of an error in the indices, and the indices sponsor is not required to inform of such an error, in the event it would occur. LYXOR ETF UK Call: Website: Telephone calls may be recorded and/or monitored for training and quality purposes.