Goldman Sachs Slashes Smart Beta Costs

New ETF issuer is seriously going to challenge higher smart-beta ETF costs.

LONDON – You could say that Goldman Sachs Asset Management’s (GSAM) recent move to enter the ETF market is arriving late to the party. However, turning up fashionably late has its advantages.

GSAM is targeting the smart beta, cost-sensitive corner of the ETF market, presenting a challenge to the indexing industry, a space that has been under heavy pressure to justify its fees.

So what does this new offering look like? The newly launched GSAM U.S. equity ETF and its emerging market ETF track a proprietary rules-based strategy combining four so-called risk factors, dubbed ‘ActiveBeta’. These risk factors are value (companies that have been overlooked and are undervalued), momentum (persistence in price direction), quality (how efficiently companies run their business) and volatility (favouring stocks with lower volatility). The strategy uses proprietary metrics to define each factor.

Bypassing the index provider enables the firm to focus on lowering the ETF price-tag. At the same time, GSAM can promote its own intellectual capital by advocating a non-market capitalization weighting scheme in order to beat market returns.

Gary Chropuvka, head of customized beta strategies at GSAM, emphasizes that “there are products out there utilizing one factor but we think ActiveBeta’s ability to combine four factors very efficiently in a cost effective manner is a key differentiator for GSAM.”

Lower Price Tag In Hot Market

GSAM is choosing to differentiate its products on strategy and price.

The prospectus price tag of the first ActiveBeta product is 24 basis points (bps), far below the average for this type of product. The average smart beta ETF TER is 55 bps, while the comparable for active ETF products is 95 bps, according to Deutsche Bank data. GSAM is cutting the 24 bps even further, to 9bps, through a temporary manager fee waiver, coming in at 80 percent below the smart beta market average. Meanwhile, the emerging markets ETF is a relatively low price of 45 bps.

The low price drive, emphasis on diversification as well as the types of benchmarks selected indicate that the firm is hoping to attract not only institutional but also retail investors.

Why ETFs, And Why Now?

GSAM is an established player in the quantitative investment strategies market, managing assets of $60 billion, out of which $12 billion is in smart beta at the end of June 2015. But until now, it had never directly launched its own ETF.

The GSAM launches have been done independently of the firm’s investment banking operations - in the past, the Goldman Sachs group expressed its interest in the ETF market primarily through its total returns swap business and its part ownership of Source, a European ETF provider.

Entering the ETF market via smart beta, as it has done, is an approach consistent with a number of other recent ETF market entrants that are also affiliated to investment banks. As the beta part of the market is already heavily populated, newer entrants play to their strengths to gain traction in the fiercely competitive ETF market.

However, there is still room for these new ETFs to grow. The smart beta share of the total ETF market assets has remained relatively low, not exceeding 3.1 percent [$60 million] of the U.S. ETF market [$1.9 billion] according to Deutsche Bank ETF Research.

Future ETF Plans At GSAM

The firm has plans to expand its new ‘ActiveBeta’ brand, targeting international equities, Japan, Europe as well as U.S. small cap.

Beating the market through rules-based smart beta strategies is not the only ETF segment that the firm is targeting. According to the Securities and Exchange Commission website, GSAM is on file seeking approval for five liquid alternative hedge-fund type strategies. According to Chropuvka, “this (ETFs) is a long term strategy for the firm and we expect to continue to launch solutions for clients based on strategies that we develop here at GSAM.”

Investment Banks Back In Force

Goldman’s current move is similar to what other investment banks have done, migrating ETF operations to their asset management business. Deutsche Bank moved its db X-trackers business to its Deutsche Asset and Wealth Management arm in 2013.

GSAM’s new product suite represents banks’ increasing interest in a stable cash flow business model and their declining appetite for the soaring costs of derivatives markets. Regulation, together with increasing balance sheet demands, have caused many financial services firms to reconsider how they package assets. An ETF wrapper may just be the solution they need.

Christos Costandinides is the founder and managing director of BlueHarbor, a firm that provides strategy, marketing and investment services to institutional investors, banks and asset managers. Christos is an award-winning analyst and asset management expert with over 15 years of experience across capital markets. Formerly, Christos was Markit’s director of iBoxx index research & product strategy and head of ETF research & strategy at Deutsche Bank.