There are currently four exchange-traded funds (ETFs) listed on the JSE that track the S&P 500 Index. Only three of them have at least a one-year track record, and as the table below shows, their performance over 2018 was varied.
|Performance of S&P 500 ETFs|
|CoreShares S&P 500||9.76%|
|Satrix S&P 500||9.37%|
|Sygnia Itrix S&P 500||10.81%|
Source: etfSA.co.za/Profile Media
It’s also worth noting that according to S&P Dow Jones Indices, the return of the S&P 500 in rands last year was 11.1%. All three of these funds therefore underperformed the index.
This difference between the index return and that of a fund tracking that index is what is known as ‘tracking error’. It is generally an indication of how efficiently and effectively the fund manager is replicating the performance of the index.
CoreShares and Sygnia both replicate the index themselves. However, the Satrix product is a feeder fund that invests directly into the iShares Core S&P 500 UCITS ETF, which is managed by BlackRock and listed in London.
This is noteworthy because, measured in US dollars, the iShares fund returned -4.72% last year, against the -4.94% of its benchmark. In other words, this ETF actually outperformed the index.
Investors may ask how it is possible that the Satrix fund had a large, negative tracking error, when the underlying fund had a much smaller, and positive tracking error. It seems a strange anomaly.
Market price vs NAV
Kingsley Williams, Satrix’s chief investment officer, says the difference has to do with how the fund is structured. The Satrix ETF reports its performance based on the market price of the iShares fund in London. This market price is set every day when the London Stock Exchange closes.
However, the US market is still open for some time after this happens, which means that the share prices of the companies in the S&P 500 Index will still change. Even though the London Stock Exchange is closed, the net asset value (NAV) of the iShares fund will therefore continue to move.
The difference in the performance of the two funds comes about because the iShares ETF uses this NAV to calculate its performance. It is therefore reporting a different number.
“Because of this timing and pricing mismatch, the performance over any period is always going to be subject to differences,” Williams explains. “So if, for example, after London closes you had a situation where the S&P 500 declines, you would find that the Satrix ETF, because it locks in the performance at the London close, would outperform the benchmark.”
Noise vs real impact
Since performance is always quoted from one specific day to another specific day, the pricing differences between the NAV of the iShares fund and its market closing price on those particular days will always impact on the Satrix ETF’s reported performance. The question is how much this matters.
“The longer the period over which you measure this, the smaller those differences should become,” says Nerina Visser, strategist at etfSA.co.za. “On a one-day basis, it can be really very noisy and you can see big apparent tracking error discrepancies. But it is noise rather than anything of importance because there are many other factors involved.”
One of those is dividend flows. The Satrix S&P 500 ETF is a total return fund, which means that all dividends are automatically reinvested. The CoreShares and Sygnia products pay out dividends twice a year – CoreShares in March and September, and Sygnia in June and December.
“The timing of those dividend payouts, and at what exchange rate, would impact overall returns,” says Visser. “The rand has been extremely volatile, so if one fund paid a distribution one day, and another does it a few months later, there could be quite a difference in the actual dividends received in rands.”
Cash and currency
It’s also important to consider that although these funds only pay dividends twice a year, they are collecting them from the underlying companies throughout this period. Between the time they are received and the time they are paid out, they are held in cash.
“Normally this would be a ‘cash drag’ on the portfolio, which could weaken returns – but in a year where the market performed quite poorly, having excess cash could actually have boosted their performance,” Visser says.
Another impact would come from the currency. These are all funds quoting a rand-based return on what is a dollar-based index.
“The return has to be converted into rands – but using what rate, at what time, and at what spread?” Visser points out. “This is not an insignificant factor, because these funds may all be using difference exchange rates at different times.”
Evaluating the funds
This may all seem very confusing for an investor, since these are technical issues that they can’t really evaluate. So how does one choose which of these funds to invest in?
“I would be loathe to say that one is better than the other on the basis of observed returns over a relatively short period of time because there are so many things that affected it,” Visser argues. “It’s not as though this is evidence of a fund manager that is particularly good or particularly bad.”
She therefore suggests that investors should rather focus on two things that are clear and apparent.
“The easy one to start with is total expense ratio (TER), because that will have a direct impact on your performance over time,” she says. “The second one would be to ask whether you need to have dividends paid out. Would you prefer the benefit of having them reinvested inside the fund, at no extra cost? If I’m taking dividends out as income, then I certainly want to have a distributing fund, but if I’m reinvesting I would prefer a cumulative fund, because then I don’t have to pay for it.”