ETF Stream’s daily update on new issues brought a real gem yesterday – David Tuckwell reported that USAA, the group that provides financial services to members and veterans of the US military, is listing six ETFs in New York. These new ETFs are as follows:

  • USAA Core Short-Term Bond ETF (USTB)
  • USAA Core Intermediate-Term Bond ETF (UITB)
  • USAA MSCI USA Value Momentum Blend Index ETF (ULVM)
  • USAA MSCI USA Small Cap Value Momentum Blend Index ETF (USVM)
  • USAA MSCI International Value Momentum Blend Index ETF (UIVM)
  • USAA MSCI Emerging Markets Value Momentum Blend Index ETF (UEVM)

In of itself, the underlying ETFs aren’t that exciting. What is compelling here is the idea of the Affinity ETF.

Let’s take a step back and think through the big story around asset management and the imperative to talk to retail clients. Financial institutions spend an absolute fortune trying to build brand recognition, largely I think with middling or even little success. Here in the UK outfits such as Artemis and Jupiter plaster their names on every available billboard and transport hoarding, but I would suggest that by and large they only move the dial a little. They probably succeed in what one can call brand affirmation i.e if a list of names is presented to the retail investor, their brand advertising might help the potential client go “oh, I’ve heard of that bunch before, so I feel comfortable using these funds”. But I would also suggest that precisely because investment decisions involve very little emotional resonance, very few respondents would actively say “I’ve seen that advert by Artemis/Jupiter and like what they say”. Many investors don’t really emotionally engage with investment, seeking instead trust and reliability – or the avoidance of a mistake. Another way of saying the same thing is that most brand advertising is of a negative variety – “ want to make sure that I use the trusted brand” – rather than of the positive variety – “Must use that brand because I like their way of thinking”.

So, in sum retail distribution and brand promotion remains problematic and frankly expensive given the huge initial outlays and very long payback.

Now in truth, none of this is news to the wider financial services sector where big banks are probably regarded with even more derision and horror – and most brand advertising appeals direct to your pocket or simply tries to reassure the customer that they won’t get screwed. Given these prevailing thoughts, it’s not surprising that other, more trusted, brands have emerged in the affinity brands space to market to suspicious investors. These range from the National Trust here in the UK to outfits such as Saga amongst the grey hairs. All have built their proposition around the idea that the customer helps a brand or a cause they emotionally engage with.

I’ve long wondered why this approach doesn’t work with funds. By and large fund managers aren’t trusted greatly and a range of National Trust funds I assume would sell well. But here we run into the reality of fund administration. Back in that real world of intense regulation and sky-high costs,  one can stick one’s name on the ‘label’ but 99% of the work will still be done by the underlying outsourced fund manager.

And there’s an echo of this in those financial services products such as credit cards I mentioned earlier. Many customers have grown suspicious of affinity products precisely because they realise quite quickly that it’s the same old credit card business they loathe doing the actual hard work. I’m sure that the same logic would apply to fund managers if they suddenly started flogging all manner of affinity funds.

Enter the disruptive technology that is otherwise known as ETFs. Here we’re mid-way through a long process of corporate disruption with regulatory and technology processes working hard to deconstruct the traditional fund management business model.

One key example – white label manufacturers. We’ve seen a profusion of these new entities in the last few years, first in the US (Exchange Traded Concepts for instance) and now in Europe (ETF Securities Canvas operation and the newly established HanETF).

These issuers focus on working with third parties to bring to market new products, usually aimed at a particular niche. Crucially they also outsource as much as possible of the various functions involved with an ETF – a separate, small index firm might operate alongside an outsourced third-party distribution team.

But one challenge remains to this model – route to market. ETF white label platforms need to know that a new issue will get to scale reasonably quickly, and that usually means hitting assets under management (AuM) of at least $100m in the first year.

That, in turn, forces the client of the white label platform to work their distribution channels hard – which is fine if you are in existing asset manager but not so good for everyone else. And that’s especially the case in the fast-growing retail segment, where issuers need to get a fragmented private investor audience distributed across geographies and platform types.

Cue the affinity model. Issue an ETF which is basically owned by the ‘trusted brand’ where all the boring fund administration stuff is outsourced to non-descript third-party suppliers. Crucially the very form of the ETF helps with marketing. Sold properly the messages are very positive: Low costs; Easy to buy; Properly run by the affinity brand with a little bit of outside help; True the brand’s investment values. In sum, help your trusted brand to deliver on its promises.

Imagine the potential especially around ESG investing where there’s a small army of interested investors looking to deploy alongside a brand they can trust? Could I see a Friends of the Earth ESG ETF work – you bet! And what’s true for ESG investing is also true for the military and other trusted brands. Crucially the ETF revolution delivers it a mechanism to bring a product to market super quick.  And introduces what might be the biggest threat to the traditional asset manager business model – brands investors trust.