What’s Next for iShares — Part 2

Here is part two of my interview with Mary Anne Wiley, Head of iShares, who explains what to expect in the wake of BlackRock’s acquisition of Claymore. You can read the first part of the interview here.

Claymore pioneered some innovative programs, such as preauthorized cash contributions (PACCs) and dividend reinvestment plans (DRIPs), as well as the Scotia iTrade partnership that brought commission-free ETFs to Canada. Will those programs continue?

MAW: Let me take each one of those individually. Claymore did have a program with PACCs, DRIPs and SWPs, and by far the DRIPs were the most popular. There are other ways to do DRIPs with the brokerages directly, but not every brokerage has every ETF set up for it, and we want it to be as easy as possible for all types of investors. So we are going to keep all of the programs on the existing funds, and we are looking to expand the DRIPs, in particular, to a wider set of iShares.

As for the commission-free partnerships, we think these are fabulous programs. Anything that encourages investors to try ETFs and get to know them, to see whether they have an application in their portfolio, we support and encourage.

We think of our clients in three categories: the institutional clients (such as pension funds, asset managers and mutual funds), the advisors, and the individual self-directed investors. We estimate that our business in Canada is one-third in each category. We have focused more on the institutions and advisors to date, but we are looking at doing more for self-directed investors, and these types of programs are going to help us with that. A big part of our business this year—and I suspect for many years to come—is going to be looking at how we can effectively educate investors about ETFs and iShares, and some of that is going to come through partnerships like the iTrade program.

That is one of the next big changes to come in the ETF space. A lot of that information has come from people like yourself who are educating, and getting the word out on how to use ETFs. Now it’s time for the ETF providers to play a role.

One reason iShares and Claymore had few overlapping products was that they had quite different philosophies. Yes, both companies advocated low cost, largely passive investments. But Claymore was very vocal about why cap-weighted indexes are flawed, and iShares would counter with arguments saying that other strategies were questionable. How have you managed to take those two conflicting philosophies and make them coherent?

MAW: Actually, quite easily. There is a place for all of these different strategies. I think of investing as a spectrum, and it would be really easy if it were just a black-and-white world and you could just make one or two decisions. But markets, and the economy, and our own life situations are all evolving constantly. So the way that you build a portfolio is going to have to involve a little bit more than passive versus active. And this is an example of that.

If you go back and look at our firm, we were promoting our own stance, but it was more about the merits of cap-weighting: the largest companies in the economy are going to be the largest companies in the portfolio, and it’s self-rebalancing, so turnover is low and maintenance is low. Which is different from saying that anything outside of that is bad. It’s just the purest form of indexing along this spectrum.

Fundamentally weighted or equal-weighted indexes are based on a published benchmark, they are rules-based, they will have lower turnover than an active strategy, they are likely to be more diversified, and you can understand what you’re getting. So this is the way we think of the families now coming together. If you want a small-cap bias in the portfolio, then an equal weighted index can make sense. If you want to look at different screens, but you don’t want to go all the way to active, then fundamental indexing is right for you. It’s really a matter of understanding what the benchmark is, and then deciding if it meets what you are trying to achieve in the portfolio.

One of the main concerns my readers had when this deal went through was that it has reduced the amount of competition in the ETF marketplace, and that might remove some incentive to keep costs low. How do you respond to that?

MAW: First of all, I remind people that last year the number of ETF providers in Canada doubled. There are now seven, so there is plenty more room for competition. There was a great deal of competition for the Claymore acquisition: there were a lot of institutions that were interested in getting into ETFs, and I don’t think that has diminished at all.

We continue to see really strong flows into ETFs, and the category is continuing to grow. ETFs are still only about 5% of mutual fund assets, and even if we take that 5% to 10% there is still a whole lot of opportunity. So that’s why I believe there will be a lot more competition, from international players as well as domestic players. Vanguard has now come in to the space, and that is exactly why, if we want to maintain our position as the leading provider—which we do—we need to innovate on product development, on servicing, and on education. We need to innovate on how we actually get the products out to market. We have the fire and the desire to continue to hold that lead position.