The UK financial advisory market continues to elude exchange traded funds, new data show, as platforms lack the functionality to cheaply add them to popular model portfolios.
While intermediaries have increased their allocations to passive funds, ETFs are struggling to gain traction with financial advisers in the UK.
ETF providers had hoped that regulatory reforms would prompt ETF assets to grow in the UK retail market, but sales of ETFs among UK advisers still lag inflows to index-tracking mutual funds.
ETF net inflows via investment platforms used by financial advisers totalled £615m in 2020, compared with £6.1bn for passive funds overall, according to data from ISS Market Intelligence.
While gross inflows to ETFs accounted for 2.4 per cent of UK platform sales last year, passive funds garnered a 21.1 per cent share.
Simon Hynes, head of retail distribution for Europe, the Middle East and Africa at Legal & General Investment Management, said that when LGIM established an ETF business in 2017, he expected independent financial advisers’ use of ETFs to change over the following 18 months to two years.
But IFAs are “still not big users of ETFs”, said Hynes, who retires this month.
According to experts, there are several problems, including platforms’ charges, as well as difficulties in buying fractional ETF shares, that are slowing ETF growth in the UK.
Hynes said almost all adviser-facing platforms now offer ETFs, which was previously not the case. However, two of the “big guns” had “only recently” had the technology to host ETFs and “even then” some platforms’ charges favoured the use of funds over ETFs, he said.
“I think it will take time for the ETF structure to be seen as equally popular as funds in the UK,” he added.
Heather Hopkins, managing director at research consultancy NextWealth, said some platforms charge to deal ETFs, which “makes them more expensive than [UK-domiciled open-ended investment companies] — particularly if portfolios are being rebalanced”.
“Justifying a one-time fee for a superior product is one thing, but if the costs snowball each quarter [with rebalancing] that can have a significant impact,” Hopkins said.
Richard Bradley, research director at Platforum, agreed, saying: “Few adviser platforms charge for fund transactions, but most charge for listed securities. Rebalancing models containing ETFs can therefore be prohibitively expensive.”
Bradley said a second problem was the lack of fractional dealing on some platforms that made ETFs “harder for advisers to manage”.
“Both of these issues have been exacerbated by a rise in use of model portfolios,” he said.
Hopkins also said that “most new money is invested into model portfolios”, which was managed either by discretionary investment managers or financial advice firms.
Discretionary fund managers, for example, manage overall portfolios of assets, rather than individual client accounts. As a result, when the portfolio is rebalanced each quarter it can result in fractional trades for smaller individual client accounts, she said.
“Until [fractional ETF dealing] functionality is available across all platforms, take-up of ETFs will be limited in model portfolios,” Hopkins said.
Praemium, an investment platform, said: “A legislative change to enable company shares to be held fractionally would set a level playing field.”
Praemium added that the requirement under the Mifid regulation to have a legal entity identifier for exchange traded assets “may also have led to [intermediaries] remaining with funds as opposed to ETFs” due to the “additional work to request and continue to renew the [legal entity identifier]”.
However, the accessibility of ETFs on platforms is also a chicken-and-egg situation, according to Bradley.
“Platforms have seen little demand from advisers for ETF functionality, so it’s not really been a priority. Advisers have been happy to use index funds instead,” he said.
Meanwhile wealth managers have been a more profitable route for ETF providers in the UK.
Bradley said ETF adoption in wealth managers’ bespoke portfolios was more common as these were “less constrained” by platforms and models.
Hynes said UK wealth managers and global financial institutions were using ETFs and funds “interchangeably”.
*Ignites Europe is a news service published by FT Specialist for professionals working in the asset management industry. It covers everything from new product launches to regulations and industry trends. Trials and subscriptions are available at igniteseurope.com.
Get alerts on Exchange traded funds when a new story is published