Endowus introduces BlackRock's low-cost iShares index funds for retail investors in Singapore

Introducing iShares index unit trusts by BlackRock

Endowus has worked with BlackRock, to make four iShares index funds available to retail investors in Singapore. The BlackRock iShares series of funds are some of the most efficiently managed index funds in the world. These four funds complement the existing suite of index funds available on the Endowus platform.

Index investing refers to the strategy of buying funds that mirror the holdings of market benchmark indices such as the S&P 500, and holding the funds for a long time. The objective is to match the performance of the indices, rather than to outguess and beat the market, by replicating broad market exposure.

Benefits of investing in these index funds include:

1. Low fees: The four BlackRock iShares unit trusts are some of the lowest-cost index funds available in Singapore, and in many instances are also cheaper than SGX-listed exchange-traded funds (ETFs) and UCITS ETFs. The US Index Fund that tracks the S&P 500 index uses an index futures based approach that does not pay any US withholding tax and has a low total expense ratio of just 0.09% (as of 31 March 2023).
2. Efficiency: These funds track well-known, highly diversified, and widely used equity and fixed-income indices, making them an efficient and easy way to invest in the global markets.
3. Localisation: The BlackRock iShares unit trusts are denominated or hedged to the Singapore dollar (SGD), which makes them convenient and accessible for Singapore investors. They are registered with the Monetary Authority of Singapore (MAS) locally.

Here are the key details of the funds, available for cash and SRS investing:

Key details of the iShares index funds

Why should investors consider BlackRock's iShares index funds? 

The first index strategy was pioneered by Wells Fargo in 1973, which sold it  to Barclays. BlackRock acquired it in 2009. At the end of 2022, BlackRock’s iShares managed about US$2.9 trillion in assets, making it the largest provider of index funds and ETFs. 

To put it in context, when the iShares assets under management (AUM) is compared with the 2022 gross domestic product (GDP) of economies worldwide, it would rank as the eighth largest, just behind France and ahead of Italy.

Endowus has worked with BlackRock to make a few of their widely-used index strategies available via efficient and low-cost unit trusts.

Why does Endowus use unit trusts and not ETFs? 

Investors often get confused about index funds and ETFs. But an index-tracking fund can in fact be either an unlisted unit trust or a listed ETF. They are also similar in structure; both are open-ended mutual funds.

Put simply, the only difference between unit trusts and ETFs is their listing status. As its name suggests, ETFs are listed on a stock exchange, and therefore they trade throughout the day (intraday) like a stock does, often at discounts and premiums to  the NAV. Investors are subject to volatility in the bid and ask price. If an ETF has low liquidity — reflected in low trading volume or a small market cap — the bid-ask spread can actually be quite large, even exceeding the expense ratio (fees) of the ETF itself. In such cases, investing in an ETF can be costly.

By comparison, unit trusts are not listed, and they trade once a day at a specific NAV. They are not priced based on bid-ask spreads or intraday market prices. The NAV takes into account the trading costs associated with the index fund on that specific day. The key difference is the intraday liquidity that ETFs have and units trusts don’t have so it also suggest that if you are a long term investor like on the Endowus platform, then it doesn’t matter which structure it is and a unit trust traded once a day provides enough liquidity to be used as a preferred local product available in SGD or SGD-hedged. 

There are now more ETFs than stocks in the world. It is important to realise that not all ETFs are index based and there are plenty of active and more costly ETFs out there. Index unit trusts, such as the BlackRock iShares funds, can achieve the low cost of ETFs once we strip out the cost of distribution, trailer fees, and make them efficient at scale. Investors should assess the total cost of trading when investing in ETFs.

Unit trusts vs ETFs: key differences

When investing, fees matter

Performance is core to investing and as such costs, or tight control over them, can enhance effective returns. Fees directly impact  investment returns, and this compounds over time. High fees exponentially lower the effective return over the investment horizon.

For any index fund, the returns are the index returns minus the cost plus or minus the tracking error. Here, the cost refers to the cost of running the fund, and the tracking error measures how closely the fund can replicate the index’s performance.

Both the cost and tracking error can detract from the actual returns an investor generates. Between the two factors, cost is likely to be a bigger variable because funds have widely different cost structures, especially those available in Singapore. It is therefore critical to review the costs — not just the fund-level fee, but also other costs such as foreign exchange (FX) fees if the fund is denominated in a foreign currency, as well as withholding tax and other tax risks.

The fund-level fee is also known as the total expense ratio (TER), and is paid to the fund managers. It includes the actual fund manager’s fee, as well as legal fees, and other administrative fees charged to the fund, and is taken out of the NAV. It is therefore paid by the investors in the fund.

The table and chart below illustrate why cost is so important, by comparing the growth of US$1 million in a 10-year period from February 2013 to February 2023 with three vehicles: the S&P 500 Index (which is not investable) and two index funds tracking the S&P 500 but with different total expense ratios.

We compare the BlackRock iShares US Index Fund with another index fund that charges a higher fee — we’ll refer to it as the “ABC” S&P 500 Index Fund for the purposes of this illustration.

Growth of US$100,000

Over a decade, an investor who had invested in the “ABC” S&P 500 Index Fund would have made US$32,019 less than an investor who had invested in the iShares US Index Fund. The difference started out small but grew exponentially, thanks to the power of compounding.

Efficiency matters

An index fund’s main objective is to deliver returns as close to the index as possible. That makes it important to assess how efficient the fund is in doing so.

How then can we measure the efficiency? Indicators include the tracking error, the size of the strategy, what methodology the fund uses to replicate the index, and the currency of the fund.

1. Tracking error

While an index fund aims to track a benchmark index, in practice the fund’s performance will not always perfectly track the index. The tracking error measures this deviation or difference between the returns of an investment in the fund and the reference benchmark over time. The larger the deviation, the higher the tracking error. A lower tracking error indicates that the investment is better at replicating the performance of the index.

What else may affect a tracking error? Fees are a factor, as they have an impact on the investment returns — a fund has fees, while an index does not. On a gross-of-fee basis, before deducting for fees, the tracking error is typically in the order of single basis points, indicating after fees the tracking error would be negligible. 

Currency hedging -- financial instruments called options, futures or forward contracts are used to minimize the impact of currency fluctuations on returns from investments denominated in currencies other than the local one— and index replication also plays a role. The hedging methodology contributes to tracking error as these resets at periodic intervals, which means they can't quickly be adjusted to reflect big market moves. 

The table below shows that the tracking errors, on a net-of-fee basis, for the oldest share classes for the four iShares index funds are below 1.0% for both the 3-year and 5-year periods. This is on a net-of-fee basis, which means that the iShares funds have a small tracking error even after deducting for fees.

Tracking errors of iShares index funds

This table shows that the oldest share classes of the four index funds have small tracking errors of below 1.0%, net of fees, compared with their reference benchmarks. Annualised returns are in SGD. (%)

2. Size of the strategy

When it comes to index funds, size does matter. Index funds can replicate the index in various ways (and we will explore this in the next section). Having more assets would allow the fund manager to buy all the securities represented in the index, allowing for a lower tracking error.

Having more assets and investors also means that the operating expenses of the fund is spread across a larger investor base, thus allowing the fund manager to reduce its effective expense ratio (or fund-level fee) per investor.

All the iShares strategies that are mentioned in the article have substantial asset bases — a competitive advantage.

3. Replication method

There are three ways that an index fund can match its holdings with those of the benchmark index. All these techniques have been utilised by the four BlackRock iShares funds that we are discussing today.

i. Full physical replication

In this approach, the fund manager buys and holds all the securities in the index at the same weight as in the index. This method often results in the lowest tracking error, as the fund basically matches the index’s holdings closely. Another advantage of this method is that the fund manager will have the flexibility to conduct securities lending,  where the securities owned by the fund are loaned to third-party borrowers for a fee. This income can sometimes enhance the returns of the funds marginally.

ii. Stratified sampling and optimisation

This method is used when it is simply not possible to own all the securities in the index, as in the case of bond indices. This is the most common replication approach for fixed-income index funds. When replicating an index using a stratified sampling strategy, the fund invests in a sample of securities from the index. The fund manager also uses optimisation techniques to select and weight the securities, to try and match the fund’s risk-return profile and portfolio characteristics.

iii. Synthetic replication

This is the least common method to replicate an index — it involves the use of equity or bond index futures (or swaps) to mimic the performance of the index, instead of physically purchasing the underlying securities.

A futures contract is essentially an agreement to buy or sell an underlying asset at a predetermined price by a certain point in the future (for example, in a month’s time or three months later). 

In the context of index investing, a futures contract can be based on an index. A fund manager may buy index futures from a seller or counterparty, typically a financial institution such as a bank. Under these contracts, the bank typically promises to pay the return on the index (that the fund is tracking) to the fund manager, minus a fee for the contract. To maintain its investment exposure, the fund manager will close out a contract before it expires and then roll over or enter into the next contract.

Why might an index fund manager decide to synthetically replicate an index? In certain liquid markets, such as the US or the UK, this method may make sense because the markets are large, deep, and extremely liquid, making it relatively easy to find futures contracts based on the country indices, such as the E-mini S&P 500 futures. This is especially relevant for those investing in index funds domiciled in Ireland, such as these iShares index funds.

Also, a fund using E-mini futures to replicate the S&P 500 index will not be subject to any dividend-withholding tax, because there are no dividends to be had. This means that the index fund using synthetic replication will benefit from an additional 15% of dividend values compared to UCITS ETFs, and an additional 30% when compared to UCITS unit trusts and US-domiciled ETFs.

Not holding any actual stocks or bonds means the fund will not be able to participate in securities lending. Other disadvantages include having a slightly larger tracking error versus the index, and the potential impact associated with counterparty risk. However, there are steps that can be taken to address some of these risks.

With synthetic replication, there are costs associated with rolling over the contracts. That said, physical replication also incurs other costs, such as those associated with portfolio rebalancing.

4. SGD-denominated to minimise currency conversion friction cost

The four BlackRock iShares index funds are either denominated or hedged in Singapore dollars (SGD), making them convenient and accessible for investors in Singapore. This contrasts with most index ETFs, which are generally denominated in foreign currencies.

Singapore-based investors can minimise the friction from currency conversion by investing in these iShares index funds. Foreign currency conversion often involves tens of basis points in fees, which can even be greater than the annual cost of the underlying fund, especially if it's a low-cost passive index unit trust or ETF. Being able to avoid FX conversion reduces your costs and other inefficiencies.  

Endowus also has one of the most attractive FX conversion rates. This is because unlike many other digital players or traditional banks and brokers, Endowus does not take a spread or charge our clients anything on the FX conversion. It is provided as a service to clients who require FX conversion to invest in our multi-currency fund offerings on Endowus Fund Smart. You can make multi-currency deposits on our platform and also use the integrated currency conversion feature if you wish to go beyond SGD-denominated funds. Popular and often exclusive funds in major currencies — such as USD, EUR, AUD, JPY, and GBP — are available on Fund Smart at some of the lowest costs in Singapore.

Learn more about the iShares index funds

Product highlights: iShares US Index Fund 

• The iShares US Index Fund provides investors with low-cost exposure to the US large-cap market by tracking the S&P 500 Index. The fund replicates the index by using S&P 500 futures contracts, which removes the US withholding tax. This is also the reason for its lower number of holdings versus other funds tracking the S&P 500 Index.
• The tracking error over the 3-year and 5-year periods is less than 1%, making this fund an efficient index tracker.

Product highlights: iShares Developed World Index Fund 

• The iShares Developed World Index Fund provides investors with low-cost exposure to the MSCI World Index. The MSCI World Index is a broad global equity index that represents large and mid-cap equity performance across 23 developed markets. 
• The fund physically replicates the MSCI World Index, by investing in all the holdings represented in the index at the same weights. The number of holdings in the fund is different from that of the index, because the fund holds currency swaps and futures for efficient portfolio management.
• The tracking error over the 3-year and 5-year periods ranges from 0.6% to 0.7%, making this fund an efficient index tracker.

Product highlights: iShares Global Aggregate 1-5 Year Bond Index Fund

• The iShares Global Aggregate 1-5 Year Bond Index Fund provides investors with low-cost exposure to the Bloomberg Barclays Global Aggregate 1-5 Year Index. This index represents a specific segment of the Global Aggregate Index, with exposure to fixed-income securities that have maturities between 0 and 5 years. The index (and the  fund) has a credit rating that is in the investment-grade category, with the majority of its exposures being rated triple-A.
• The fund uses physical replication to track the performance of the index. . The index is broken down into sections, such as duration, currency, country, rating, and sector. iShares then picks a selection of bonds that mimic the risk profile of each section.
• The tracking error of this fund is extremely low, at 0.2% for both the 3-year and 5-year periods.

Product highlights: iShares Emerging Markets Government Bond Index Fund

• The iShares Emerging Markets Government Bond Index Fund provides low-cost exposure to government fixed income in emerging markets by tracking the JP Morgan (JPM) Emerging Markets Bond Index (EMBI) Global Diversified.
• The JPM index comprises USD-denominated fixed-income securities issued by sovereign and quasi-sovereign entities in emerging markets. They include both fixed-rate and floating-rate securities. The index is allocated across multiple issuers, including low-income countries from sub-Saharan Africa and wealthy oil exporters from the Persian Gulf. Country weights are capped at 10% each. Because the focus is on emerging-market debt, the fund invests across the broader credit spectrum, including high-yield and lower-rated sovereign debt.
• The fund uses physical replication to track the performance of the index. Its tracking error over the 3-year and 5-year periods ranges from 0.5% to 0.6%, making this fund an efficient index tracker, given the asset class it is investing in.

‍Improving investment options for Singapore investors

The big mission that is core to Endowus is to continuously improve the access and cost of products for retail investors in Singapore. The introduction of these four BlackRock iShares index funds is an important step in this journey as we continue to expand and lower the cost of investment options for Singapore-based investors.

These SGD-denominated or SGD-hedged funds offer efficient exposure to global markets and are some of the lowest-cost index funds available in Singapore. They are now available on the Endowus Fund Smart platform — ready for you to invest with cash or Supplementary Retirement Scheme (SRS) savings.

With Fund Smart, you can easily customise your ideal investment portfolio in minutes. Not sure how to invest with Fund Smart? Check out the FAQs. For a quick overview of all the funds available on Fund Smart or to browse through other index funds, refer to our investment funds list.

To get started with Endowus, click here.

Read more: Flagship Cash/SRS Portfolios made better with BlackRock iShares, Amundi low-cost index funds

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