ETF Due Diligence Series: A Look at Lyxor

Morningstar associate director of ETF research Jose Garcia-Zarate takes an in-depth look at some of the biggest ETF providers in the market. This week he looks at Lyxor.

Jose Garcia Zarate 19 June, 2019 | 9:21AM
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The growing popularity of exchange-traded funds means that investors now have tens of thousands of trackers to choose from. But where to start? Considerations including assets under management, tracking error, charges and the track record of the fund group. But with hundreds of ETF all promising to track the same market, picking a fund can seem an impossible task.

In a new series, Morningstar associate director of ETF research Jose Garcia Zarate takes an in-depth look at some of the biggest ETF providers in the market. This week we take a look at Lyxor.

Lyxor is the third largest ETF provider in Europe, with a market share of around 8%. It started off providing only synthetic ETFs – those which do not physically purchase the investments they are tracking but instead use derivatives to replicate an index.

But since 2012, the firm has started to use physical replication too, though synthetic products still account for around 60% of its range. It aims to have a 50/50 split.

Some investors prefer not to use synthetic ETFs because they come with what is known as counterparty risk. When you track an index synthetically you involve a third party – usually an investment bank – which provides the derivatives, effectively a promise to deliver the same return as the index being tracked. The risk comes in that the counterparty may not fulfil its obligation, most likely because it could go bust. Lyxor uses Société Générale (its parent company), so investors should consider whether they consider the bank sufficiently robust.

With its physical ETFs, Lyxor uses full replication of an index where possible. Where there are liquidity constraints or high transaction costs it will use optimisation and sampling techniques.

Lyxor has been at the forefront of pushing for fee cuts for fixed income ETFs, with many of its core bond market ETFs now offered with single-digit ongoing charges.

A pragmatic business

Lyxor was one of the first ETF providers in Europe and is known for taking pragmatic business decisions to meet investors’ preferences. It has, for example, switched many funds from synthetic to physical replication where feasible in cost terms and provided it doesn’t compromise the tracking efficiency of the fund. It has also redomiciled many funds from France to Luxembourg to ease the administrative burden to non-French investors.

The firm has invested heavily in both personnel and technology and we like the stability of the portfolio management team. However, Lyxor’s reliance on its parent company Société Générale as a swap provider, securities-lending agent, and custodian is a potential source of conflicts of interest.

The incorporation of Comstage will provide Lyxor with a foothold in the German market (Soc Gen agreed to acquire ComStage’s parent company Commerzbank in July 2018) but it will present administrative challenges in the consolidation of the ETF ranges, with numerous fund mergers and closures to be expected.

Lyxor is a latecomer to investment stewardship. However, since setting up a Socially Responsible Investment (SRI) team in 2015 it has taken steps in the right direction, hiring professionals and launching a programme of direct engagement in 2017. More progress is still required, but we welcome the firm’s willingness to expand actions on this front.

Our findings are collated in the publication “A Guided Tour of the European ETF Marketplace”.

You can read our analysis of iShares here

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Jose Garcia Zarate

Jose Garcia Zarate  is Associate Director of Passive Strategies Research for Morningstar Europe

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