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Reporting exemption granted to index funds

INDEX funds have been provided with a case-by-case exemption from the takeover regime on the basis that the funds have a limited discretion in the acquisition and disposal of securities.

This puts them at odds with the restrictive takeover reporting requirements applying to general investment funds.

“ASIC does not believe that an index fund should be compelled to refuse further subscriptions, or increase its tracking error, merely because group holdings in a company represented in the index are close to the 20 per cent takeover threshold,” ASIC corporate finance director Richard Cockburn said.

“ASIC will impose conditions to ensure that, to qualify for the relief, an index fund closely tracks the index. Relief will be made on the condition that an index fund does not vote on shares held by the fund.”

However a spokesperson from State Street, which operates three index funds, said it was no more than an academic exercise from ASIC. He said it was highly unlikely that index funds, which have a combined value of less than $30 billion, would ever get to the stage of reaching the 20 per cent takeover threshold.

Given the nature of index funds it would mean that the fund manager would have to represent 20 per cent, or more than $100 billion, of the stock market.

Index funds invest in a portfolio of securities and are designed in such a way that their value tracks a nominated market index.

As WA Business News reported last week, one of the beneficial features of index funds is that investors achieve instant diversification. They are not be-holden to individual stock prices, nor the performance of individual fund managers.

Index funds are also significantly easier and cheaper to run, since the manager is not actively trading the portfolio.

The Australian Securities and Investments Commission made its decision in response to submissions made in relations to the “Investment funds: takeover and substantial holding relief” submission issued in November last year.

ASIC has made it clear that the current legislation for takeovers and disclosure by substantial security holders disadvantages members of public investment funds.

It tabled a number of reform options including no change, ASIC exemptions or legislative change.

To gain exemption status an index fund must offer a document or investment mandate stating its maintenance system and process, giving a reasonable assurance that the tracking error will be maintained.

The index fund holds not more than 5 per cent in a company over the same company’s index weighting in the relevant index.

In addition, an independent third party must review compliance with the tracking error requirements every six months.

In Australia there is only a small number of index funds to choose from.

Vanguard Investments, the global pioneer of index funds, offers an Australian Share Fund that aims to track the S&P/ASX 300 index, before fees and expenses.

Alternatively there are index-based Exchange Traded Funds. Unlike the Vanguard product, which operates as a managed fund where investors buy unlisted units in the fund, ETFs are listed on the ASX and can be bought and sold like shares.

Salomon Smith Barney has launched two products that track the performance of shares in the S&P/ASX 100 index or, alternatively, the performance of instalments.

Fund manager State Street has more recently launched three ETFs tracing the S&P/ASX 50, S&P/ ASX 200 and S&P/ASX 200 Listed Property Trust indices.

The relief provision confirms the original exemption status granted to State Street in July.

State Street Global Advisers Australia director James MacNevin said the provisions were granted in recognition of the unique structure of the funds as ETFs.

“The ‘streetTRACK’ funds have a primary market mechanism which allows units to be issued to and redeemed by eligible investors,” he said.

“From time to time this involves large unitholdings, which could trigger the takeover and substantial holder notice provisions.”

This will provide benefits to investors, Mr MacNevin said.

“Relief from these provisions will allow the funds to operate as intended with an efficient trading structure that is designed to minimise deviations in the quoted price away from the value of the underlying assets,” he said.

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