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Exchange-Traded Funds Take Off in Canada

The Canadian market for exchange-traded funds is gaining momentum, thanks to the entry last month of one of the country's biggest banks and a product expansion by the country's leading manager of exchange-traded funds.

Though still relatively small, industry participants expect the exchange-traded fund market to grow much more rapidly than conventional mutual funds, much as it has in the U.S.

"The growth prospects have been rather staggering in the U.S.," said Steve Geist, vice-president and managing director of TD Asset Management of Toronto, a wholly owned subsidiary of Toronto-Dominion Bank. "What takes place in the U.S. is often an indicator of what will happen in Canada."

TD Asset Management's first two exchange-traded funds - a TSE 300 index fund and a capped TSE 300 fund with a 10 percent limit per stock - began trading on the Toronto Stock Exchange in late February.

Meanwhile, market leader Barclays Global Investors Canada of Toronto announced a tripling of its offerings. By the end of March, it will have nine exchange-traded funds listed on the Toronto Stock Exchange, up from three.

As of mid-March, there were U.S. $3.9 billion in exchange-traded fund assets under management in Canada. By comparison, there were about $274 billion in conventional mutual funds.

The lion's share of those assets are in the $3.2 billion iUnits S&P/TSE 60 Index Participation Fund managed by Barclays, which currently dominates the exchange-traded funds industry. Barclays as of March 12, had five funds, with a total of $3.5 billion under management.

State Street Global Advisors Canada of Montreal is a distant second. Its sole offering to date is the $245 million SSgA Dow Jones Canada 40 Index Participation Fund, introduced last October. Rounding out the field is TD Asset Management, with $168 million in its two new funds.

"We definitely see ETFs as the wave of the future," said Geist of TD Asset Management. "They will have a growing retail appeal." The entry of TD Bank into the market will enhance the credibility of ETFs, and TD Asset Management's first two products represent only a beginning, he said.

Geist predicted that the exchange-traded fund market, now made up exclusively of passively-managed funds, will eventually expand into actively managed ones.

"When that happens, we'll be there," he said.

For its part, Barclays, a subsidiary of Barclays PLC of London, will now turn its attention to launching exchange-traded funds providing exposure to markets outside Canada. All of its current Canadian offerings, including two fixed-income exchange-traded funds that it describes as the first of their kind in the world, invest exclusively in Canadian securities.

In the Barclays product pipeline for Canada, though with no announced launch date, are derivatives-based exchange-traded funds that will track the Standard & Poor's 500 index and the Morgan Stanley Europe Australia Far East (EAFE) index. Barclay's strategy is to offer exchange-traded funds "across the entire asset-allocation spectrum" so that Canadian investors can put together diversified portfolios consisting entirely of exchange-traded funds, said Steve Rive, general manager for iUnits at Barclays.

"We're clearly committed to building the ETF business in Canada," he said.

Rive welcomed the new competition from TD Asset Management. More entrants are probably good for all managers of exchange-traded funds because it helps raise the profile of these products and educate investors about them, he said.

Because of their low management and expense ratios and greater flexibility in that they can be bought on margin or traded throughout the business day, exchange-traded funds are appealing to clients of discount brokerages such as Toronto Dominion's own TD Waterhouse, said Geist of TD Asset Management.