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India ETF Growth – A Historical Perspective
The Indian investment market has undergone a sea change over the last three decades. Investors have confidently moved from the traditional investment instruments like bank fixed deposits, shares, and mutual funds to the more evolved options like derivatives, commodities, and exchange traded funds or ETFs. In this article, we will talk about ETFs and look at their evolutionary path while trying to assess where the ETF market is headed in India.
An Exchange Traded Fund(ETF) is a portfolio of securities that can be traded on a stock exchange. Hence, with an ETF, you reap the benefits of a diversified portfolio (like in mutual funds) while enjoying the liquidity of being traded on a stock exchange (like stocks).
Globally, the rationale behind launching ETFs has been the same – open-ended mutual funds fail to provide the flexibility of intra-day redemptions and close-ended mutual funds trade either at high discounts or premiums. Hence, the market needed an exchange-traded investment instrument that is traded throughout the day. Also, the market value of such an instrument needed to be as close to the value of the underlying asset(s).
The global financial crisis of 2008 is considered to be the time when ETFs rose from the ashes and gained a spot in the investment portfolios of retail as well as institutional investors around the world. When economies were reeling under financial distress, ETFs became a popular investment option due to their cost benefits and other features.
History of the ETF Market in India
ETFs were first created in the early 1990s. After nearly a decade, India saw its first ETF – the Nifty ETF Fund or Nifty BeEs, launched by Benchmark Mutual Fund. This ETF tracked the performance of the Nifty 50 Index. The initial acceptance of ETFs was slow, as is the case with any new financial instrument. However, over the years, ETFs have grown in popularity at a steady pace.
Benchmark Mutual Fund continued to be the pioneer of ETFs in India and launched the first debt exchange-traded fund in 2004 called Liquid BeEs. This was a Fixed Income ETF. In fact, it was the first money market ETF that gave India the privilege of being the first country to launch an ETF catering to the needs of risk-averse investors.
Subsequently, in 2007, the fund house launched the first gold exchange-traded fund called Gold BeEs. While Goldman Sachs bought Benchmark Mutual Fund in 2011 and Reliance Mutual Fund bought Goldman Sachs in 2015, these ETFs are still operational. As of November 2019, there were 71 ETFs that track various debt and equity indices with total assets under management of around INR 1.47 trillion.
By the time the world recovered from the financial crisis of 2008, the Indian ETF market was experiencing a shift towards gold. In fact, from 2009 to 2014, around 50 percent of the total assets in various ETFs were in Gold funds.
2014-15 was an interesting year in the Indian investment market’s landscape. People were confident about the growth of the Indian economy based on some strong fundamentals that led to optimistic investments. Also, in 2014, the Government of India decided to disinvest a part of its holdings in Public Sector Units via ETFs. This led to the launch of the CPSE ETF (Central Public Sector Enterprise Exchange Traded Fund) in March 2014. This was a huge success with the government harvesting around INR 3000 crores via the disinvestment.
The latest ETF to join the league is the Bharat Bond ETF, launched in December of last year.
The Global ETF Market Perspective
Since its launch in the early nineties, the global ETF markets have experienced phenomenal growth. As of September 2019, there were around 7797 Exchange Traded Funds or Exchange Traded Product in the world with total assets under management crossing USD 5.78 trillion.
Globally, the US market dominates the ETF segment with a 70 percent share with the Asia Pacific market holding an 11 percent share. Also, Equity ETFs account for nearly 76 percent of the global ETF markets while fixed income ETFs at 20 percent.
Growth of the ETF Market in India
From 2015, the Indian ETF market has experienced a meteoric growth of nearly 1000%. In December 2014, the assets under management for exchange-traded funds were INR 13,800 crores. They have grown to INR 141,500 crores in May 2019! This is a compound annual growth rate (CAGR) of 55%! While the CPSE ETF played a major role in boosting the ETF market, in 2015, the Employees’ Provident Fund Organization or EPFO also decided to increase its equity investments via ETFs.
ETF investments are largely passive investments where the fund tracks the performance of an Index. Over the last few years, actively managed funds have not performed according to the investor’s expectations. This has given rise to a debate between active and passive investments, bringing ETFs to the fore. Also, the awareness about ETFs among investors is growing due to efforts by SEBI, NSE, and the Government of India.
Possible Roadblocks for Growth
There are two major roadblocks that are preventing further growth of ETFs in India:
- Not distributor-friendly – Distributors play an important role in selling investment instruments to people. Most mutual funds offer these distributors a small commission for recommending their products. However, to keep costs down, ETFs, typically, don’t pay any commission to distributors. Hence, they prefer recommending mutual funds to their clients instead of ETFs regardless of the investment benefits.
- Lack of variety – Currently, nearly 85% of ETFs in India are linked to equity indices. Of these most are large-cap focused ETFs. This has led to an ETF market that lacks variety. Investors need options – within equity ETFs as well as within the fixed-income ETF segment.
A Peek Into the Future
Around the world, ETFs have started making inroads into investor portfolios due to their cost and liquidity benefits. In fact, the ETF market in India is following its U.S. and U.K. counterparts. In 2008, when the financial markets were collapsing, investors realized that while they cannot control returns, they can ensure that their investing costs are minimal.
In India, 2019 was riddled with multiple challenges: a bad monsoon, rising prices of essential commodities, and a slowdown of the economy. In such conditions, investors needed an instrument that provided high liquidity while offering reliable returns. The ETF market rose to the expectations and the Department of Investment and Public Asset Management (DIPAM) launched the Bharat Bond ETF (3Yr) and the Bharat Bond ETF (10Yr) – India’s first corporate bond exchange-traded fund which invests in public companies run by the State. This was India’s first foray into an ETF with the security of investing in public companies.
At Kristal, we believe that the ETF market is on course to become a huge market offering investment options to all kinds of investors. ETFs are undoubtedly more cost-efficient and investor-friendly as compared to mutual funds. As the market evolves and the regulators and Government strive to increase the awareness of ETFs, the Indian market is poised to see a plethora of a new variety of ETFs being launched. If we look at the bigger picture, then the growth of the ETF market in India will also lead to a competitive drop in costs associated with mutual funds leading to the creation of a better investment landscape for investors.
As we see it, the ETF market in India will gain popularity and trust of investors in the near future. As an investor, the next time you plan to make an investment, keep ETFs on the table and consider your options well before investing.
The materials and data contained herein are for information only and shall in no event be construed as an offer to purchase or sell or the solicitation of an offer to purchase or sell any securities in any jurisdiction. Kristal Advisors does not make any representation, undertaking, warranty or guarantee as to the update, completeness, correctness, reliability or accuracy of the materials and data herein. All opinions, forecasts or estimation expressed herein are subject to change without prior notice. Kristal Advisors and its affiliates accept no liability or responsibility whatsoever for any direct or consequential loss and/or damages arising out of or in relation to any use of opinions, forecasts, materials and data contained herein or otherwise arising in connection therewith.
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