By Paul Amery

Deutsche Bank's launch of its own ETFs under the db x-trackers brand was one of the major events in the European market last year. Index Universe met recently with Manooj Mistry of Deutsche Bank to get an update of the firm's activities and plans.

Paul Amery, European Correspondent, IndexUniverse.com: Can you give us some background on Deutsche Bank's entry to the ETF market last year?

Manooj Mistry, head of db x-trackers structuring: When the first European ETFs were launched in 2000, Deutsche Bank made a deliberate decision not to enter the market. The bank's clients were primarily using other instruments. But over the years, we noticed increased demand for synthetic index products - futures, swaps and then ETFs. Around the beginning of 2006, the bank's management made the decision to enter the ETF market with its own funds, rather than just selling other peoples'. We launched our first ETFs in January 2007.

IU: You have had an impressive growth rate since then.

Mistry: Yes, within 16 months we've raised around €13 billion of assets, and in 2007, we were the largest gatherer of European ETF assets. From zero, we've reached about 12% market share currently.

IU: Where have invested assets come from by client type-institutional, hedge fund, pension fund, retail? Has there been any seeding from other parts of the Deutsche Bank group?

Mistry: At least 85-90% of the assets have come from institutional investors, such as pension funds, insurance companies, funds of funds, discretionary portfolio managers in private banks and private wealth managers.

IU: What influenced your choice of product range?

Mistry: Rather than launching a handful of funds and waiting to see how they did, we took the view that we needed to have a wide product range. We've rolled out over 80 funds since January of last year. On the equity side, as well as covering the developed markets, we have 12 emerging market ETFs and several inverse funds. We launched the first European money market ETFs, the first ETFs on credit indices; recently, we've also launched the first funds on currency indices. So, in summary, we've combined a "me-too" approach, such as funds on the EURO STOXX 50 and MSCI Europe, with innovations in several areas.

IU: How would you compare and contrast the growth of the European ETF market with that in the U.S.?

Mistry: Europe is fragmented by country, stock exchanges, language, taxation and regulation, which to some extent explains the proliferation of funds we've seen - the number of ETFs created in the first seven years of the European ETF market is much higher than in the first seven years of the U.S. ETF market's existence. At the same time, European ETF providers have been quite innovative, launching, for instance, the first commodity and credit index ETFs. With European ETFs only at around 1% of the total funds market, compared to around 4% in the U.S., there's some catching up to do. Having said that, we hope the market can triple in size in the next four to five years.

IU: What are the main obstacles to achieving that growth rate?

Mistry: Institutions are happy to trade an ETF wherever it's listed in Europe, but in order to access the retail market, the fund has to be cross-listed into the local markets. Even with the so-called consolidation of stock markets - take a fund listed on Euronext Paris, for example - it's still expensive for a Dutch investor to buy it there. So we don't yet have really unified exchanges, just different exchanges operating under the same banner.

IU: To what extent are these inefficiencies reflected in the cost of the ETFs, i.e., fees?

Mistry: Fees have come down on ETFs in Europe, as well as the U.S. As an example, if the SPDR Depository Receipt (SPY) costs 9 basis points (bps) in the U.S., the EURO STOXX 50 ETF (FEZ) is 15 bps, so there's not a huge difference. But from the issuers' perspective, clearly more time has to be devoted in Europe to doing the listings and registrations. Long launch times are also an issue. All European funds are launched as UCITS [Undertakings for Collective Investment in Transferable Securities]. It has been taking a minimum of three to four months to have a new ETF approved. In Luxembourg, for example, it takes two to four weeks to get a fund approved, and then it takes 60 days of "passporting" under UCITS to get the fund approved in the jurisdiction where you want to distribute. You can add another two to three weeks to get documents translated. We're hoping that this passporting time can come down to, say, 20 days.

In the U.K., by contrast, the passporting time has come down to 10 days, but the approvals process can take six to seven weeks, as there's a process we have to follow with the UKLA [UK Listing Authority].

IU: How do you decide where to list first? Or do you try and do all the listings simultaneously?

Mistry: We try to do things as simultaneously as possible, but we know that some markets will launch earlier than others. In the past, we've often launched ETFs in Germany first, but with some recent launches, the London and German listings were simultaneous.

IU: We hear a lot about new product approval backlogs in the U.S. How does Europe compare?

Mistry: I'm not an expert on the U.S. market, but in principle, it should be easier in Europe. The fact that swap-based ETFs are permissible in Europe under UCITS III means that we can use a range of underlyings in an ETF, so as long as a fund complies with the UCITS rules, it's usually accepted. A new product in the U.S. may require longer to educate and/or convince the regulator.

IU: By some estimates, 70% or more of ETF trading takes place over the counter (OTC), and is not reflected in the stock exchanges' turnover figures. What is the reason for so much European ETF trading being off-exchange, and can we expect more to migrate back?

Mistry: In the U.S., ETF subscriptions and redemptions are crossed on the exchange, but in Europe, there may be no easy way of doing this. Market makers are committed to trading in a certain size and within a certain spread on the exchange, but if clients want to trade in a larger size, it may be difficult to fulfil the order. Often, the easiest solution is to do the trade over the counter, and clients are usually happy because they get a better price this way.

To give an example, our MSCI emerging markets ETF, which is now over $3 billion in size, has only traded about $500 million on exchange since launch. All the rest of the creations were done OTC.

As far as concerns about transparency are concerned, a lot of our ETF creations are done at NAV, using closing prices, so clients get a transparent and independently verified price.

IU: In which areas do you expect the biggest asset growth in 2008, for db x-trackers and in general?

Mistry: As far as db-xtrackers are concerned, I see big growth potential with our short ETFs, in our inverse funds on the DAX, EURO STOXX 50 and the S&P. Moving toward that goal, we recently launched five more funds on DJ Stoxx 600 sectors (banks, healthcare, oil and gas, technology, telecoms).

Our credit ETFs [three long and three short, based on the iTraxx indices] have attracted a lot of interest, particularly as an alternative to trading credit directly - when you buy these ETFs, you don't have to worry about setting up ISDAs [International Swaps and Derivatives Association] and managing credit derivative exposures.

Our money market ETFs have seen big inflows-the EONIA fund, which tracks European overnight rates, has raised €2.9 billion, and we've recently added sterling and dollar funds. We hope these will continue to grow.

The market in general will probably see more structured ETFs, whether leveraged or linked to some other type of derivative strategy.

New index strategies, such as fundamentally weighted, will also attract interest, I believe.

One challenge for ETF providers is to move to the next tier, into frontier equity markets and beyond the BRIC countries (such as our recently launched Vietnam fund).

In commodities, ETF Securities have been prolific, but we can expect more index launches in that asset class from other providers.

IU: Manooj, thank you very much for your time and for sharing your views.

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