Source UK Services

Source UK Services Ltd., or simply Source, is a specialist British-based provider of exchange-traded funds (ETFs) and exchange-traded commodities (ETCs). The first products of Source, 22 T-ETCs and 13 ETFs, became available in April 2009 on Deutsche Börse.^[1] Source is owned by five of the world’s largest equity trading houses – BofA Merrill Lynch, Goldman Sachs, J.P. Morgan, Morgan Stanley and Nomura.^[2][3]

Source has raised about US$9.4 billion in assets since its launch to date,^[4] becoming one of the fastest-growing ETF provider in Europe.^[5][6][7][8]

Source’s product range consists of 53 equities, 31 commodities, 3 fixed income and 4 alternative products.^[4]

Legal and regulatory structure

The parent company, Source Holdings Limited, is a Cayman incorporated, Irish tax resident company. It has two subsidiaries – Source Investment Management Limited, an Irish UCITS Management Company (“Source Investment Management”) and Source UK Services Limited, an FSA regulated company (“Source UK”). “Source” is used to refer to group entities as a whole.^[4]

Source Investment Management, responsible for the management of Source Markets plc, has been approved as a UCITS management company and is regulated by the Central Bank of Ireland.^[9]

Source UK is authorised by the Financial Services Authority.^[4][10]

Motivation and opportunities

Source executives claim there were several raison d'être for Source at launch.

Limited counterparty risk

With events such as the collapse of Lehman Brothers and near collapse of AIG in September 2008, credit risk was brought to the forefront of investors’ concerns.^[11][12] Source, which was launched in the midst of the recent financial crisis, responded to this by setting self-imposed guidelines on its exposure to its counterparties that exceed European UCITS regulatory requirements. It has capped exposure to derivative counterparts to a 4.5% which is well below the 10% limit set by UCITS III. Source’s open architecture, multi-partner platform allows it further diversify counterparty exposure over the various participating banks. An independent asset manager is responsible for managing the assets adding a new level of investor protection.^{[13][14][15][16]} Furthermore, Source UK Services commodity products are secured by T-Bills, G-7 bonds and cash making them the most stable counterparty structure in the industry.^[17][18]

Improved liquidity

Source aims to be a catalyst for liquidity in the ETF market and believes it is the most important factor in the take-up of ETFs in Europe. In the United States, daily on exchange trading volume on average exceeds $70 billion, which accounts for 10% of ETF Assets under management (AUM), whilst in Europe that figure is approximately $2 billion, which accounts for about 1% of AUM.^[19][20][21] To increase liquidity on its products and avoid fragmentation, Source limits the number of exchanges it lists its products on. Currently, Source products can be listed on the Deutsche Börse, London Stock Exchange and Swiss Stock Exchange.^{[2][3][22][23]}

Better product performance

Source aims to bring innovation and efficiency to the ETF industry on all fronts whether it is structuring efficient ETFs, offering access to new asset classes or working with index providers to put forward more efficient products based on optimised indices. Source claims to obtain better performance through the use of derivatives which guarantees not only a very robust counterparty risk structure, but also a tighter index tracking. Source products are recognised in the industry for their very low tracking error.^[24][25]

In many cases Source has worked with index providers in order to offer ETF investors that perform better than competitor products. Of these, the most notable is the partnership of Source with STOXX to create optimised sector indices. In July 2009, Source teamed up with STOXX, the index provider, to launch a range of optimised sector indices. These new indices are fundamentally different from the existing ones as three new filters applied in picking the underlying stocks which are liquidity, availability to borrow and concentration. The market response to the products was impressive, with Source gaining a large market share in a short period of time. Also, trading volumes on sector products jumped to €9.4bn shortly after the products became available representing almost a six-fold increase.^[8][26]

In commodities investing, Source recognised the importance of the shape of the underlying commodities futures curve in deriving efficiencies to the end-investor. As a result, Source launched Source Crude Oil Enhanced T-ETC which uses dynamic rolling rules in order to mitigate the effects of contango in the oil futures markets. This product tracks S&P GSCI Crude Oil Enhanced Total Return Index providing a significantly higher level of correlation to the price performance of spot WTI crude oil.^[17][27][28]

Recent partnerships

Source-PIMCO

In December 2010, Source and PIMCO, the world’s largest fixed income manager announced their partnership of creating fixed income ETFs based on proprietary indices and range of actively managed products.^[29][30][31] Source and PIMCO launched their first two products in early January 2011 - the PIMCO Euro Enhanced Short Maturity Source ETF and the PIMCO European Advantage, the former being Europe’s first actively managed ETF.^[32] The latest addition to the platform was the PIMCO US Dollar Enhanced Short Maturity Source ETF.^[33] In line with its inaugural aim, the products offered through the partnership focus on "the unmet demands",^[30] of European investors through innovation."^[31] For instance, in the current challenging environment of low returns for money market ETFs PIMCO Source Euro and US Dollar Enhanced Maturity funds aim to overcome this issue by active management.^[34] PIMCO’s older US-domiciled MINT fund that is based on the same strategy has been very successful so far in attracting investor money with the fund becoming the very first actively managed ETF in the world to cross $1bn mark.^[35][36] The PIMCO European Advantage Government Bond Index Source ETF, though a passive tracker, addresses the fundamental issues in bond investing by replicating PIMCO’s European Advantage Government Bond Index that is based on GDP-weighted methodology.^[37][38][39]

Source-Man GLG

On 31 January 2011, in partnership with Man Group, the world’s largest listed hedge fund,^[40] Source launched Man GLG Europe Plus Source ETF. The new fund aims to outperform stock markets by tracking the Man GLG Europe Plus Index which is composed of approximately 200-250 European stocks selected using algorithm from a pool of broker ideas provided exclusively to the Man GLG and rebalanced daily. The management fee of the fund is 75 basis points. The strategy underpins this ETF has been run by Man GLG since 2005 successfully and produced impressive outperformance when compared to representative large capitalization equity benchmarks.^[41][42]

Other achievements and innovations

Source became the first European ETF provider to launch 18 innovative sector products that are built to benefit from diversification, liquidity and availability of stocks to borrow in the underlying indices. The underlying indices, the STOXX European 600 Optimised Supersector indices, were specifically created by STOXX and Source in July 2010.^[43][44][45] At the same time, Source also initiated a first large scale create-to-lend on ETFs in Europe. As a result, Source sector products turnover increased, this has also tightened bid-offer spreads lowering the cost of owning products benefiting all market participants.^{[2][3][46][47]} Since launch in July 2010, the Source Optimised Sector ETFs have increased the overall sector turnover by over 700% and continues to capture over 80% of the sector turnover.^[48][49][50]

In June 2010, Eurex launched options on Source ETFs allowing investors to express their view on market. This helped the ETF options market to become more efficient. After the addition of options on Source ETFs, the market grew exponentially from €7 mn to €400 mn.^[5][51]

In January 2010, Source issued Source RDX ETF. It was another contribution of Source to the wider market. By using a new index which releases dividends when they are only paid, Source overcame the hurdles that investor face when investing on Russian stocks.^[5][52]

In June 2010, Source issued S&P VIX Futures Source ETF and became the first European ETF provider to offer investors exposure to volatility in an ETF form. The ETF tracks S&P 500 VIX Futures Index which is the most popular index for investors who wants exposure to volatility.^[53][54][55]

Recent product launches

On 11 April 2011, Source launched the EURO STOXX Optimised Banks ETF. The ETF tracks the EURO STOXX Optimised Banks Total Return index (net) which has been optimised to reduce exposure to illiquid stocks.^[56][57]

On 18 April 2011, Source launched three physically backed precious metals ETP – Source Physical Silver P-ETC, Source Physical Platinum P-ETC and Source Physical Palladium P-ETC. Each product is secured by physical metal held in JPMorgan’s London vaults and have a 0.39% annual fixed fee. They are listed on London Stock Exchange and trade in US Dollars.^[58][59]

On 19 April, Source teamed up with Nomura to launch the Nomura Voltage Mid-Term Source ETF. It is claimed that this new volatility product minimises the negative impact of contango of investing VIX futures by also investing in US treasuries when volatility is low.^[60][61]

Source ETPs

Source ETFs

Source ETFs enable an investor to gain exposure to a broad range of equity indices. They achieve their target performance by investing in liquid equities and using total return swaps to minimize any tracking error. As a result, the swap counterparties (BofA Merrill Lynch, Goldman Sachs. Credit Suisse, J.P. Morgan, Morgan Stanley and Nomura) provide the target performance of the index to the fund. The Source UK Services ETF structure has a fundamental advantage relative to a number of ETFs in the market as it caps exposure below regulatory requirements and also transacts with multiple swap counterparties, thus diversifying the risk to any single counterparty.

Source T-ETCs

Source T-ETCs enable an investor to gain exposure to commodities without needing to trade futures, take delivery of physical commodities or incur significant credit risk. Source T-ETCs are secured by US Treasury Bills and cash and are linked to the S&P GSCI family of indices which include broad indices, sub-indices and individual commodity indices such as gold, crude oil or sugar.

Source P-ETCs

Source P-ETCs are certificates designed to provide exposure to gold, silver, platinum and palladium. They are secured by a specific physical investment in metal held in the vaults of the J.P. Morgan Chase Bank. Holdings are held in allocated accounts and valued daily at the London fixing price. All four Source P-ETCs are traded in USD. Source Physical Silver, Platinum and Palladium listed on the London Stock Exchange, the Source Gold P-ETC is listed on both the LSE and SIX Swiss Exchange.

Product list

Key partners

Source UK Services' partners are some of the largest participants in the ETP market: BofA Merrill Lynch, Credit Suisse, Goldman Sachs, J.P. Morgan, Morgan Stanley, Nomura and PIMCO^[62] along with Nyenburgh, Jane Street, All Options, Baader Bank, Banca IMI, BNP, Commerzank, DekaBank, Euro Invest Bank, Exane, Flow Traders, HSBC, IMC, Knight Capital, LaBranche, Newedge, Optiver, RBS, SG Securities and UniCredit.^[62][63]

Awards

• Highlights of industry recognition of Source's efforts:
  • “Securitization and Structured Finance Deal of the Year”. Source ETC program. IFLR European Awards 2010
  • “Technology Innovation”, Structured Products Europe Awards 2009
  • “Best ETF provider of the Year”, Structured Products Europe Awards 2010
  • “Best Global (ex-US) Equity ETF Manager 2010”, ETFExpress
  • “Best Europe ETF Manager 2011”, ETFExpress
  • “Best Commodity ETF Manager 2011”, ETFExpress
  • “Best North America Equity ETF Manager 2011”, ETFExpress

See also

• Gold exchange-traded fund
• Passive management

References

External links

• Source UK Services Ltd.