How Bharat 22 ETF can help global investors

Disinvestment through the route of ETFs with the underlying of strong fundamental companies has been a unique initiative that government has taken. Bharat-22 ETF is a step forward in this direction with the underlying of smart beta formulation making the deal sweeter for local investors. This comes on the back of the success that government had with the Central Public Sector Enterprise (CPSE) ETF launched in 2014, which was more of a Pure Passive Investment strategy.

The Bharat 22 ETF comprises of as many stocks in a unique combination of private and public-sector companies. Of these 16 companies are Maharatnas/ Navratnas or Miniratna-1. These 22 stocks span six different sectors of the Indian economy - such as industrials, finance, utilities, energy, FMCG and basic materials - which directly stand to benefit from the various key reform initiatives undertaken by the government like financial inclusion, Make in India, infrastructure development and others. With sectoral capping at 20% and stock specific capping at 15% in place with an annual re-balance, the Bharat 22 ETF ensures diversification and is likely the only smart beta ETF that offers investors the opportunity to partake in India’s growth story in a balanced way.

ETFs have globally received a lot of attention from both, large institutional investors managing long term sovereign funds as well as retail investors and have increasingly become a preferred mode of investment. Assets under Management (AUM) of ETFs have grown from $ 1.75 trillion to over US$ 4.3 trillion in a space of five years – representing a CAGR of 19.70%. Number of ETFs have also grown exponentially from 3,330 in 2012 to more than 5,150 in 2017.

A large part of this growth can be attributed to the fact that not only are ETFs the most efficient and lowest cost financial products – resulting in higher end returns in the hands of the investor, but also due to mature markets offering limited alpha generation opportunities to fund managers; making a strong case for smart beta and passive investing. This, in turn, has driven investors’ attention increasingly towards smart beta and rule based asset management strategies where ETFs score over other products.

Despite the trailblazing growth in ETFs AUM, global investors have been unable to take any meaningful exposure to India through ETFs. A case in point is the fact that in USA, that has ETFs AUM of over $3 trillion – which amounts to close to 70% of the global ETF AUM, India focused ETFs (ETFs with more than 90% allocation to India and over 90% assets exposure to equities) have a cumulative AUM of less than $ 15 billion – which is less than 0.5% of the total USA ETF AUM. The comparable figure is even lower for the whole of Europe.

Cross listing or a dual listing of the Bharat 22 ETF in global markets viz USA and London would be an ideal first step to bridge this gap and provide global investors’ with the option to diversify their holdings and take exposure to a high-yielding asset class in their portfolio. They can derive extra comfort from the fact the government holds a substantial stake in most of the constituent stocks of the Bharat 22 ETF. Also, it has allowed Employees Provident Fund Organisation (EPFO) – India’s largest provident fund body, to take part in equities only via CPSE ETF and in all likelihood, would continue to do so through Bharat 22 ETF.

This will enable greater participation in the ETF from a larger ecosystem of investors. Also, as the investor base widens, it will lead to greater liquidity in the ETF, which in turn would benefit all participants.

The success of Masala Bonds – as witnessed in the recent past – is a definite sign of global investors acknowledging India’s improving macros and increasing allocation to India. This way, global Investors – including the retail category of investors –would have an option to take an India exposure at low cost with just a click of the button.

A dual listing of Bharat ETF on global exchanges could serve as a huge opportunity for the government to redefine investing in India and take India to the global markets vis a vis bringing global investors to India as was the trend in the past. Additionally, with several pro-growth reforms undertaken by the government and the resulting improvement in India’s macro economic scenario, the timing may be ideal to consider such a move.

GROWING ABOUND

• ETFs make a strong case for smart beta and passive investing
   
• They are the most efficient and lowest cost financial products
   
• These funds offer higher returns due to mature markets limiting alpha generation
   
• ETFs score over others in rule-based asset management

The writer is chairman, ZyFin Funds