As a young reporter, barely a day passed without having to attend a media function of some kind. One of the privileges of ageing in this business is one’s ability to be more selective. But I did venture out this morning to a rare breakfast event celebrating the debut of four new Exchange Traded Notes on the JSE. Launched by BNP Paribas, the event had all the frills of a modern new listing including the blowing of the Kudu Horn (what those of us from KZN call a Zulu Vuvuzela). After the event I asked BNP’s London-based Steve Nawrocki to pop over to the Biznews.com studio to chat about these rather unique ETNs, which track portfolios structured the way Warren Buffett, Peter Lynch, Benjamin Graham and other Gurus would do it. As you’ll hear, I’m a fan. Once you get a feel for the way these low cost offshore investment options work, you might become one too. – AH
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STEVE NAWROCKI:  The exchange-traded funds are a way of accessing local mutual funds on the exchange here at the JSE. The ETN is on the equity segment and really, the point of the ETN is to allow investors to have access to assets they normally don’t have access to. On the one hand, the ETF is more of an optimal way of accessing something – a local asset. The ETN is a way of accessing assets that wouldn’t normally be available off the shelf here in South Africa.
ALEC HOGG: What’s the difference for an investor? You see ETF and ETN and you think, why the difference?
STEVE NAWROCKI:  The whole point is that we’re trying not to have a difference for the investor. I would say this is the point. Where the JSE is bringing the innovation to the marketplace, is by allowing the ETN’s to be listed it means that all the regulatory approval is done beforehand, the listing is on the exchange and the trading is on the exchange, which makes the product accessible for all investors, be it the sophisticated…even down to the retail investor. The ETN’s that we listed and launched this morning allow the investors to have access to mutual funds that are offshore, so they are U.S., Europe, and Asia (ex-Japan).
ALEC HOGG: That’s very interesting and we’ll get into those in a moment. I just wanted to get an understanding of the difference between the two. The big issue though of course, is costs and that’s something that’s received an increasing amount of attention, hence the popularity of ETF’s in this country, relative to mutual funds. I heard you say this morning that there are no fees involved.
STEVE NAWROCKI:  Absolutely, and I think that we’re very proud to bring a product to the market here, which we consider extremely efficient and competitive. The layer that is the ETN, which is the market access wrapper if you like, has no fees at all because the underlying investment is in a fund run by BMP Paribas Investment Solutions, which is our asset management arm. All the fees are taken at the level of the fund, so you’re just paying the same fees you normally would if you had a direct investment in the fund. We’re not charging anything extra for making that investment accessible in South Africa.
ALEC HOGG: A nice clean price, it has done well, and it’s called a Guru Fund. Now, as a follower of Ben Graham and Warren Buffett, it was exciting to see that you’re going for those deep value specialists.
STEVE NAWROCKI:  Absolutely, and I think this is one of our differentiating points. Compared to traditional benchmark investing, which is what most ETF’s and even ETN’s do, is they give you access to a no frills benchmark – usually market capitalisation weighted in equities – and it just gives you access to roughly the U.S. market. Actually, when you look at it in detail, most of these benchmarks are weighting their stocks by market capitalisation. The saying goes; that’s the most liquid stocks and stocks that have done well in the past, are the biggest ones, and are the ones you want to be invested in. What we believe is that by choosing the larger stocks, you’re actually choosing the ones that had previous best performance, and not necessarily the best performance for the future. Our range of ETN’s is based on a stock selection methodology, which is inspired by the legends of finance – the gurus of the investment world. We tried to come up with a rules-based system, which is inspired by these legends of investing.
ALEC HOGG: It’s almost like having Warren Buffett manage your portfolio for you in European shares or Asian shares etcetera.
STEVE NAWROCKI:  Exactly, and our stock selection methods are inspired by them. We look at criteria such as profitability, value, and growth, and then we rank the shares and we try to find the shares that have the best prospects, both in terms of profitability, growth, and value. We then systematically allocate into these shares and roll this on a monthly basis, which means that at all times we have a portfolio, which is constantly being shuffled around to give you the best prospects for the future. In the end, what speaks for itself is the performance, so all the indices of our ETN range are outperforming their benchmarks pretty much consistently since their launch dates, and really, that’s what we’re excited about.
ALEC HOGG: So they’ve been going since 2008. You have backdated for ten years, but from 2008, you’ve physically had these portfolios running.
STEVE NAWROCKI:  Absolutely, we launched the funds that are based on these portfolios and they are what we call in Europe Ucits Funds, so they’re exactly like a mutual fund here in South Africa. They are fully transparent, investable directly in Europe, and we’re just using the ETN to allow people to invest in them here. The first was launched on the 1st of December 2008. We then launched about one every six months. We have a range of four of them, and the track record of this investment style has been very good. We’re consistently outperforming.
ALEC HOGG: Have the investors reacted in Europe, for instance? Are you getting many inflows to these funds?
STEVE NAWROCKI:  Absolutely, we are and I would say that for us, the most interesting aspect is that originally we hoped that the market segment we’d get to is the passive investment market segment. These are people who would normally invest in a plain vanilla benchmark, would allocate to our funds purely because they’re outperforming. What we’ve seen is that ‘okay, that’s working’, but we’ve also seen people de-allocate from their active manager and also allocating into our strategies because the performance of our strategies is outperforming even the active managers, or a large proportion of the active managers.
ALEC HOGG: Well, you’d think so if you were getting the very best in the world to handle your portfolios for you, even though Benjamin Graham has passed on, but you’re using his methodologies and applying that then to a massive universe in the different areas. Just to maybe bring it down a little bit more, do you disclose the underlying portfolios you have?
STEVE NAWROCKI:  Yes, we do and we disclose the methodologies, and this is where we’re absolutely transparent. We want to ensure that the investment decision is in the client’s hands. As much as in a regular actively managed fund, there is a lot of uncertainty about how the fund manager actually makes his decisions, we have pre-disclosed rules, we apply those rules, and then we obviously disclose the exact shares you’re invested in. If you believe in the investment philosophy of these investment gurus, and how we have taken their vision and turned them into rules that one can apply, then this index is for you and this product is for you.
ALEC HOGG: The different gurus, of course: there are traders and there are deep value investors. It appears as though this is for the deep value investor.
STEVE NAWROCKI:  It’s not actually. What we’re using is three criteria in our stock selection. One of the most important ones is profitability, and that’s an obvious one. You only want to select companies that are profitable. The second one is as you mentioned – the value investing – so there’s no point in buying a good company if you’re overpaying, so we’re really looking for companies that are profitable, but at a good entry price. Even if you choose only those two criteria, what you find is that over time, there are periods where even that kind of investment will underperform. That’s because there are market-specific issues that will arise, which means that shares come in and out of favour depending on general market conditions or on what the market views as having high growth potential. That’s really, where our third indicator comes from. What we look at is the momentum of a stock. If a stock continues performing well in the stock market then those trends tend to go on for quite a period of time.
ALEC HOGG: So you’re trying to weld – if you like – value and momentum investing or value and growth investing, together.
STEVE NAWROCKI:  Yes, it’s the ‘best of three worlds’ type of choice and that’s how we get consistent outperformance over time.
ALEC HOGG: The key thing here is you can buy it in Rands. You don’t have to get Exchange Control approval. It will be traded in Rands. However, the underlying assets are…
STEVE NAWROCKI: Â Hard currency.
ALEC HOGG: Indeed. The four different notes that you’re bringing to this country…
STEVE NAWROCKI:  The U.S (Pan-US Equities), the European one (Pan-European Equities), Asia ex-Japan, and then we’re doing the all-countries, which is the broad one.
ALEC HOGG:Â Literally, you, in the same way as you would buy Richemont or Naspers shares on the JSE: you put in your order with your stockbroker or online broker and purchase the ETN in the same way.
STEVE NAWROCKI:  It’s as simple as that.
ALEC HOGG:Â What about liquidity?
STEVE NAWROCKI:  Liquidity is provided onscreen, so in that sense…
ALEC HOGG: Are you going to help, though? Are you going to make sure that there is more liquidity and that people can trade in these notes?
STEVE NAWROCKI:  What we do is…obviously, the underlying assets are funds and those funds then invest directly into the shares. What we do is my trading operation in London provides the extra liquidity when required, so we’re addressing institutional investors with these ETN’s, so we expect to be able to do a very big size at the right price.
ALEC HOGG:Â So the spreads will be small.
STEVE NAWROCKI:  The spreads will be small and it’s more like an investment in a fund, so you’re actually trading at an NAV-type price.
ALEC HOGG: That is always a problem for investors in South Africa. You’re not sure what the liquidity is going to be like, but you have BNP Paribas behind this and you’re going to make sure there’s a strong market in it.
STEVE NAWROCKI:  That’s correct.
ALEC HOGG: And the decision to bring it to this country: it’s a pretty small part of the world.
STEVE NAWROCKI:  Well, our footprint in South Africa is growing. We are committed to South Africa and the market here. We are expanding both in our South African branch and through our holding in BNP Paribas Cadiz – our stockbroker, and so we believe this product really combines many strengths of the BNP Paribas Group.
