Dividends, takeovers, rights issues and other corporate actions regularly change securities weightings in indices. In response, VanEck’s team buys or sell shares each day to ensure the firm’s ETFs continue to track these indices.
Then there are fund flows in and out of VanEck ETFs, which require interaction with market-makers. A market-maker is a designated firm that provides liquidity in the ETF market by creating or redeeming ETF units as investors buy and sell.
“Retail investors might not realise the amount of work ETF issuers do behind the scenes to ensure an ETF correctly replicates its underlying index,” says Hannah. “On rebalance days or when there are a lot of corporate actions, it can be intensely busy.”
ETFs are funds that trade on ASX and other securities exchanges. ETFs typically seek to track the return of an index (before fees and expenses), a currency or a commodity.
For example, an ETF over the S&P/ASX 200 Index aims to mirror the return of the ASX 200. In fixed interest, an ETF over the S&P/ASX Australian Government Bond Index is designed to match the return of Treasury Bonds in that index.
ETF issuers directly own securities that comprise an index. If a stock is worth 3% of an ETF’s underlying index, the ETF issuer must own the right amount of that stock to replicate that weighting. For some ETFs, issuers use derivatives to mirror securities weightings. These ETFs are labelled “synthetic” and have additional risks.
“It can be quite complex to adjust securities weighting due to corporate actions,” says Hannah. “Thankfully, our team has lots of ETF experience, diverse skills and good systems. Our tracking error is negligible.”
Tracking error measures the deviation of an ETF’s return to its underlying index. Persistent, large tracking errors suggest an ETF issuer is not doing its job.
At VanEck, tracking errors are measured in fractions of a percentage. Every basis point (one-hundredth of a percentage point) matters. “ETFs are all about efficiency and reducing costs,” says Hannah. “Our main goals are minimising tracking errors, ensuring our ETFs are always correctly priced and making it easy for clients to use them.”
As part of its series on market participants, ASX Investor Update asked Hannah about a day in the life of an ETF issuer. Hannah is a former stockbroker who has worked at VanEck Australia since 2014.
Jamie Hannah: I wake around 6am or sometimes earlier if my two-year-old is up. By 7.15am, I’m in the office, checking overnight market action and reading the business news. When the prices for our US and European trades come through early morning (Australian time) after offshore markets close, I analyse that data.
I then usually have several phone calls with people in the US, where VanEck’s head office is based. I talk to people on US trading desks about our trades in that market. We also review fund pricing from the day before for VanEck ETFs on ASX.
Before the Australian market opens, we work with our fund administration and custodians to ensure every VanEck ETF is correctly priced. We make sure all our trades have been processed into our system, factored into an ETF’s Net Asset Value and that the ETF’s tracking against its index is correct. A lot of checking is going on.
Jamie Hannah: That’s the key part of our day. By mid-morning, the index files start to arrive. Index providers [such as MSCI or S&P] send through information on corporate actions in the index. With about 1,500 stocks across our ETFs, there are always a number of corporate actions that affect stock weightings and require us to respond.
Jamie Hannah: Dividends are quite interesting. An index typically invests its dividend on the dividend ex-date. But in Australia, some companies take weeks or months to pay their dividend. The ETF issuer has to reinvest the dividend on the ex-date to ensure the ETF still correctly tracks the index, but doesn’t receive funds until the dividend is paid.
To manage this, VanEck has a borrowing facility where we borrow to invest in the index on the ex-date of its dividend, and repay that money when the dividend is received. The ETF is not leveraged: the borrowing helps with the cash-flow timing from dividends.
Jamie Hannah: Index providers have different rules for how they treat company takeovers. Generally, if a company is taken over, we need to reinvest those funds on the last day of the takeover, to maintain our index weightings. As with dividends, the takeover proceeds might take weeks to arrive. So, we can either sell the company on its last trading day or use the borrowing facility to ensure we adjust our portfolio weightings to the takeover.
Jamie Hannah: I’ll talk to market-makers to understand how they are placed each day. They might need to increase their inventory of a VanEck ETF because investors have been buying more of that ETF.
For example, the market-maker might want to create $5 million worth of units in the VanEck MSCI International Quality ETF (ASX: QUAL). Our team then has to buy $5 million of the underlying securities in the index that QUAL tracks. That means placing an order to buy 300 shares across 22 countries.
Jamie Hannah: We receive funds in Australian dollars, but have to buy securities in dozens of currencies (including emerging markets). To execute a trade, we might have to sell Australian dollars and buy US dollars or the euro. We net the FX trades together, to optimise our foreign-currency transactions and keep ETF costs low.
Jamie Hannah: I worked as a broker during the tech wreck in early 2000. And I worked on Wall Street during the Global Financial Crisis in 2008-09. Neither event compared to the carnage of the COVID-19-related collapse in financial markets in early 2020.
For the first time, you had traders everywhere working from home. Our industry said having traders at home would never work, but it did. At the time, the VanEck team was working hard to ensure the $5-6 billion we managed back then correctly replicated indices in incredibly volatile markets. Equities were easier: parts of the global bond market froze, making it hard to manage ETF bond funds.
Jamie Hannah: VanEck has a product-development team and a very active product-development pipeline. We collaborate with that team. Sometimes, we suggest an ETF idea if we see a gap in the market.
We always advise on a new VanEck ETF from a portfolio management and capital-markets perspective. For example, with VanEck’s Global Carbon Credits ETF (Synthetic) (ASX: XCO2), our team advised on the structuring, implementation and monitoring of carbon futures. We analysed where and when carbon futures trade, how they are acquired, how carbon futures change and how the ETF should respond to those changes.
Jamie Hannah: It’s a growing part of our team’s work. As a large shareholder in many companies, VanEck monitors proxy voting on governance issues for stocks held in our ETFs. We meet with the management and Board of companies to discuss upcoming voting issues if something concerns us. As the ownership of companies by index funds worldwide grows, we’ll see ETFs getting more involved in governance.
Jamie Hannah: We regularly meet with institutions, financial advisers, brokers and other VanEck clients. Our team produces a lot of research for clients, contributes to VanEck marketing initiatives and liaises with the investment media.
Jamie Hannah: Your need to be analytical, have strong attention to detail and good problem-solving skills in a fast-moving setting. Like me, some people in our team have a broking/trading background. Others have actuarial skills and are very skilled with mathematics and analysing large data sets.
Increasingly, our hires have a CFA qualification (Chartered Financial Analyst). The big differentiator is the ability to code software. Our team often writes software code and regularly tests and refines our systems to ensure they are as efficient as possible. Graduates with strong coding skills stand out and are valuable in the ETF industry.
Jamie Hannah: I like the diversity of working in financial markets. In some ways, the core task of being an ETF issuer is the same each day. But you always do that work in different market circumstances. I also like dealing with people all over the world each day and getting involved in new products.
I’m fortunate to work with a great team at VanEck and be part of a business that has grown substantially in Australia. ETFs in Australia are now a $127 billion market , but still relatively small compared to ETF markets in the US and Europe. It’s good to be part of an industry that has strong long-term growth prospects and continues to evolve in Australia and help more investors.
 VanEck’s assets under management for ASX-quoted products were $10.087 billion at 31 August 2022. Source: ASX Investment Products report.
 Source: ASX Investment Products Report at 31 August 2022.