Next Generation Smart Beta In An ETN?

June 20, 2014


Alternative investment management firm Hinde Capital has launched an exchange traded note (ETN) on the London Stock Exchange in conjunction with Société Générale, taking smart beta to a new level. The equity ETN, which is designed for sophisticated retail investors, comes with an added twist and claims to be the next generation of smart beta, blurring the lines between the hedge fund and mutual fund worlds.

The SG Hinde UK Dynamic Equity ETN (50% Hedge), which listed on the London Stock Exchange last month and has an annual charge of 1.3 percent, seeks to capture the positive performance of 20 UK stocks from the FTSE 100 and FTSE 250 indices, whilst also providing partial protection against falls in the UK stock market.

Ben Davies, co-founder and CEO of Hinde Capital, described it as “next generation smart beta”.

He said: “It’s a strategy we have thoroughly simulated and stress tested. We can see it works through the numbers, as well as in practice and Societe Generale did high level due diligence and were excited by our innovative strategy.

The ETN is set up to track the performance of a dynamic portfolio, which contains long exposure to 20 UK stocks, generating a total return as the UK equity market rises, and a short exposure to the FTSE 100 and FTSE 250 indices. The short exposure creates a risk management feature designed to reduce capital losses if the UK equity market falls.

“We are taking a strategy that we could run as a hedge fund and we are providing it in an ETN that the man on the street can ultimately buy – albeit a sophisticated retail man for now,” he said.

The ETN, issued by Société Générale, is set up to mitigate counterparty risk with collateral worth 110 percent of the market value of the ETN, which is then rebalanced daily and held with The Bank of New York Mellon.

The ETN also comes with another safety measure - a 50% hedge built into the product. The hedge means that should the stocks fall, the short exposure allows the dynamic portfolio to generate a profit as the indices fall in value.

Davies explains that they have essentially tried to compress typical investment-cycle returns to accelerate the compounding effect of dividend capture, dividend reinvestment and capital gain. “In passive traditional value income strategies this cycle takes much longer,” he said.

So far, the simulated test has returned 255 percent over 11 years with half the drawdown of the composite FTSE100/250 total return index and with over a third less volatility of returns.

Davies explains that there is currently a paucity of similar products available to investors, and the mutual fund world and the hedge fund world need to meet in the middle. He aims to introduce higher institutional standards into the retail world.

“Assets have grown here, but actually the quality is few and far between. There are a lot of index huggers who are active managers and are doing a particularly bad job. When you work in a proprietary trading environment if you don’t make money in one year, you get fired, so there is incentive and culture for us to do well and we are bringing that philosophy into the retail space,” Davies said.

An ETN is different to an ETF because, although they both track an underlying asset with relatively low costs and trade on a stock exchange, an ETF is an open ended fund that holds the assets it tracks. An ETN however, is a unsecured debt note issued by an institution and can be held to maturity. Therefore, if the issuer were to go bankrupt, the investor could lose out too.

An ETN is also not UCITS compliant unlike an ETF, however they can be considered UCITS eligible.













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