In a recent VettaFi Viewpoints video episode, Dave Nadig, a financial futurist at VettaFi, sat down with Pat Chiefalo, head of ETFs & Indexed Strategies at Invesco Canada, to talk all things cross-border investing to give investors a deeper understanding of what is going on in Canada.
Cross Border Investing
Dave Nadig: Hey folks, Dave Nadig here, financial futurist at VettaFi. Had the opportunity to sit down with Pat Chiefalo, who’s the head of the ETF business for Invesco in Canada. We talk about cross-border investing and how that’s really become a big issue both from the perspective of an issuer in the United States bringing products into Canada, but also some of the attraction for U.S. investors and looking at some of the innovative Canadian products that we just don’t have access to here in the U.S.
We talk about Invesco’s strategy of really bundling up some of those products, focusing on things like factors and smart beta. Chiefalo and I talk about some of the challenges in the regulatory environment and really a lot about how the asset allocation world has shifted in this more volatile world we find ourselves living in. Hope you enjoy it. I know I did. Cheers.
What’s Changed About the ETF Market in Canada?
Dave Nadig: What’s changed about the ETF market in Canada?
Pat Chiefalo: It’s constantly changing. We started off pretty plain vanilla, I think like most of the globe, but we kicked off a lot of more esoteric areas. Some people might remember kind of the levered ETFs, actives. We got started quite early, so a lot of these more different exposures beyond the more plain vanilla market cap ETFs, we kind of started a lot of that here, which is great. It was a hub for innovation. Lots of exciting things and I think that continues today.
You have a lot of cool and interesting areas. Some of the things that you guys are thinking about in the U.S., whether it’s layering in derivatives into ETFs or the more recent development here have been people using ETFs for cash management on the retail side.
Dave Nadig: It’s sort of interesting. That dynamic has really seemed like a pendulum that swung between the U.S. and Canada because derivatives are a great example. We’re in a bit of a boom in the U.S. market right now where you can basically get an options overlay on almost anything, including your grandma’s house. But actually, that type of strategy started in Canada first.
Pat Chiefalo: It did.
The Regulatory Structure
Dave Nadig: You all had options overlay strategies and covered call writing strategies before those were even allowed in the U.S. Now we seem to be in a bit of almost a retail swing towards that in the U.S, the cash management side, you all seem to be way ahead on, but that’s changed too recently. Do you feel like the regulatory structure is as flexible and innovation-centric as it was 15 years ago in sort of maybe the heyday of ETF innovation here?
Pat Chiefalo: I think it strikes a good balance. It strikes a good balance between oversight, making sure the products do what they say on the tin, that investors can understand them, and that they’re clear. All those things are super, super important, but I think it also allows for some innovative things to develop in the space. All that I think is kind of true. There will always be nuanced differences between our regulators, yours, globally, et cetera. But I think it provides that kind of happy medium to continue to develop and do cool, interesting things and, at the same time provide the right oversight.
And there’s always types of reviews, sort of questions from the regulators. They keep a close eye. It’s a 350 billion-plus space going higher. It’s certainly something that most Canadian households are going to care about and want to make sure are managed effectively, and I think we do a great job here.
Is the Cross-Border Investing Issue Going to Get Better?
Dave Nadig: Do you think that the cross-border investing issue is just going to continue to be thornier? Because on the one hand, I know in Canada there’s for years been a big push to make sure that Canadian investors understand that buying Canadian local products has lots of advantages in terms of oversight, in terms of taxes, et cetera. At the same time, there are products here in Canada, particularly around the crypto space that we can’t even buy in the U.S. So, I got a lot of calls from advisors saying, “Well, how do I start getting a little bit of Canadian action because I’d love to get some direct Bitcoin exposure.”
So, we’ve had this sort of interesting cross-border tension. You’re in a unique position to sort of monitor that in real time because Invesco straddles both worlds. Do you see that separating more or do you see them actually coming closer together?
Pat Chiefalo: A couple of things. I think Canadians reaching across the border to buy U.S.-listed ETFs has always been sort of a thing. Even since I started in the industry. The debate was always how much, what was the size? I think that data is kind of hard to find and to source, and I think a lot of it has been rooted in institutions. You have a lot of very large, very liquid ETFs in the U.S. that we just don’t have here for certain global exposures and U.S. exposures. Institutions in Canada love those kinds of products for certain types of exposure. I think you always had that kind of cross-border.
What Do Canadian Manufacturers Try to Do?
What we try to do as Canadian manufacturers in particular, if we sit at a global seat, is what are some important exposures that have investment merit that we want to bring up north? List them locally, so we have our local regulatory oversight, and that allows for much easier access for Canadians to purchase, to sell, to learn about the products. It’s easier for us to service those types of products. It’s not hard to bring up those exposures North, we’ve done a lot.
NASDAQ is a great example, right? Large liquid product in the U.S. I think it was back in 2011, that we brought that product up North and it’s in a wrapped format, which is super efficient for Canadians to own. It’s super efficient for us to deliver. I think that is sort of a second important element that if there are areas that we believe are of huge interest, we’re happy to kind of bring them North, wrap them to the extent that they work under our Canadian regulatory framework, and provide them to Canadians.
Why Have Wrapped Q’s Products Been Interesting?
Dave Nadig: Well, and the wrapped Qs-type products have been an interesting one because that’s one where of the way the Canadian structure works, it’s fairly trivial for you guys to have the various hedged versions of that, which have actually really worked out for Canadian investors. That’s where you want it to be as a local Canadian was not just directly in the U.S. product. You wanted that hedge.
Pat Chiefalo: You wanted it to own it here, and there are different flavors. Oftentimes, you’ll see an un-hedged version, a hedged version, and even a U.S. dollar version. Canadian households hold U.S. dollar assets and they want to know what to do with those as well. So, those three versions are the kind of staple when we look at U.S. exposures to bring it up north. You’ll see different sizes of each class or each type of fund that’ll be more popular, but having those options is super helpful for clients.
Invesco’s Canadian Product Line
Dave Nadig: In terms of differences and what the local flavor feels like. One thing that’s I think a bit unique about Invesco’s product line here versus in the U.S. where you have just hundreds of products, is a real focus on ESG in a market where that has not really been catching a bid with a lot of investors, certainly in the U.S. Do you feel like that space is going to continue to be challenged or do you feel like this is just a bit of a pendulum swing?
Pat Chiefalo: This was our view when we originally got a little bit more serious into ESG and started building out that kind of product a little bit more. It’s going to be a market in flux. It was early days when we launched. We knew it was early days and this is going to evolve and develop. The first versions are not always the right ones. There’s going to be an evolution. There’s going to be a lot of client engagement and discussion on what client needs and things they like and don’t like. I think that’s the process we’re in now. That’s the kind of timeframe we’re in now.
Why Has Cash Been King in 2023?
The other thing that I think is important, particularly for this year is cash has been king. Risk has been off, and any kind of equity beta strategy that didn’t look a lot like cash or feel a lot like cash or like a safe investment probably took a backseat to, “How can I protect my assets in the meantime while interest rates sort themselves out, economy sort themselves out?” All this stuff I think is still in TBD, to be figured out what’s going to happen.
I think when investors feel more comfortable, they’ll be able to look at more risk-on strategies including this, including anything else. At the moment though, the conversations we have with clients are dominated by, “How can I take risk off the table? If I’m going to have equities, I wanted to be selective, maybe I wanted to be a little bit safer.” So, that’s been the predominant conversation this year. It’s put a lot of these different strategies a little bit on the back burner, but I think there’s still lots of development happening in the space.
What Has Been Working for Advisors?
Dave Nadig: And that issue of playing defense with your equities, that’s one that comes up. Every time we get a little bit of volatility in the market, everybody runs to, “Well, I want high quality, I want low volatility. I want income streams.” Is it as simple as those three things? Because I look through your product line, I look at what’s sort of hitting with advisors. It’s equities that look more like bonds, long-duration equities if you will, and anything that’s doing risk management and buffering and putting options overlays around those things. It’s alternative weighting schemes that get you out of the magnificent seven.
You guys have a lot of equal-weighted products in the mix as well. And then it’s things like low vol or multifactor things that gear you towards some vague definition of quality. Those have been the story for 20 years. Is there anything new in that space or is it about getting those betas more and more refined so they really address investor needs?
Pat Chiefalo: I’ll take it down the kind of multifactor question because multifactor, I’ve been in well with for a lot of years. Factors and factor investing I think is really hard to get right, whether it’s from a product construction standpoint, a factor selection standpoint, or how investors use them. It’s a really hard thing to get right.
I think like some of the other strategies, it’s had time now to be in the market and to sort itself out. People have spent a lot of time trying to understand how they apply it and how they use it. We originally launched some products in Canada around dynamic multifactor, which is a strategy we’ve had in the U.S.
Dave Nadig: Which has been incredibly successful, right?
Pat Chiefalo: In flows, more importantly though, performance. And so it’s a strategy we, like we talked about earlier, we wrapped and have brought it up north for Canadian investors to use.
Is It the Same Product in Canada?
Dave Nadig: So, that is the same product? It’s a similar product.
Pat Chiefalo: Yeah, it’s the same product. We just wrap it and bring it up north. Super efficient to do and now we offer it here. And you’re right, we’re getting a lot of interest, and conversations around trying to understand what these products are and how they work. And this is why I think these products are really a next-generation version of factor investing. They’re not offering factor investing, putting it on the table saying, “You pick.” Or, “We’ll smash them all together, and here, buy them all.”
This is leveraging factors to create portfolios that we believe will provide incremental returns given the current economic environment. That’s different. That’s new. Factors have always been, “You decide. You can pick, you figure it out.” We’re using it as a tool and providing the outcome for investors to purchase, to buy, and to hold. You’re not trading these around, you’re not selecting.
Was There a Shift in Client Base?
Dave Nadig: Is some of that a shift in the client base? Because sort of the first generation of factor products, maybe 10, 12 years ago, they were like you described, it’s like quality, small-cap, value.
Pat Chiefalo: You figure out what you want.
Dave Nadig: Right. And that always struck me as a building block approach that was great if you were a hedge fund manager or even if you were just a long-term mutual fund manager and you were trying to do that kind of work or if you were quant and you needed inputs in your model, but a single ticker type solution for that has been tough in the U.S. until very recently.
Canada’s really leaned into those sort of single ticker-type solutions. Is that really the angle here? A multifactor is looking more at that retail audience, which is more comfortable saying, “Hey, this is my equity allocation, it’s got one ticker.”
Pat Chiefalo: I think so. You always have to, and I always bring it down to how clients build portfolios and sure, they can spend a lot of time thinking about which factor, how do you produce the factor, is a real factor, how do you define it? That’s all cool and interesting. But I think certainly in retail space, you’re building portfolios. You want to build portfolios that are going to work for clients that are going to help them achieve their financial goals. And you really want to spend time on asset allocation, and robust products thinking about what can I add? What do I not need anymore?
So, I think that’s a better place to be spending time and that’s why I think the products that we’ve offered fit nicely into that niche. You understand the strategy, you understand what it’s going to do for you and then you can park it in a part of your portfolio whether we have it now for international equities, we have it for U.S. equities. You can park it in those allocations and we believe they’re going to continue to work for you and provide that exposure is different from a traditional market cap, different from other active types of exposure. I think I always like and gravitate to those type of solutions because I think they work well and they fit nicely into how retail investors thinks about building portfolios.
Is There Going To Be a Reallocation Back Into Equities?
Dave Nadig: And it sounds like your timing here is pretty intentional. You started off by saying that cash has been king, but we feel like that might be changing. Do you think this is a moment where we’re going to see a lot of reallocation out of cash and bonds and back into equities?
Pat Chiefalo: I wish I could predict the date. I wish I had that in my back pocket. I probably just left it outside. It’s going to happen sooner or later, right? Markets always are cyclical, risk on, risk off, so it’s going to happen sooner or later. I actually think it’s good that we’re taking a little bit more time to sort out the economy. It gives us time to get awareness around the products that we’ve launched into a broader retail investor base. They’re not trying to chase the market and maybe not spending a little bit of time thinking about these products or just buying it without fully spending the time with us. There’s time to do this, which is great.
So, the timing has worked out doubt good from our perspective. It’s something that we will educate on and when clients are ready, when risk becomes back in vogue, when they want to sort of crank up the equity explosion in their portfolios, they’ll know and hopefully vote with their dollars that these are the right products that fit.
What Is the Feedback You’re Getting From the Field?
Dave Nadig: Are you getting feedback from the field, as it were, from your folks out who are doing sales and distribution work, or whether you’re talking to individual investors when you’re out on the circuit? Are you getting much of a vibe that last year was so brutal because 60/40 was crushed in both directions, it was awful. Has that shaken people’s sort of fundamental beliefs about what they should do with their portfolios or is it just creating that pause that you mentioned?
Pat Chiefalo: I don’t think it’s shaken fundamental beliefs. You see some of the press headlines, the hype around 60/40 portfolios, all this type of stuff.
Dave Nadig: Yeah. I’m so tired of that one.
Why Do You Still Need Fixed Income in Your Portfolio?
Pat Chiefalo: Things like alternatives, and privates can be really important parts of portfolios. If clients understand them, know how to access them, know how they work and how to use them, they can be super important things. But a global equity basket, a local equity basket, fixed income, local and global, all these things are critical to portfolios as well. And I think still they represent the vast majority of what’s in portfolios. I don’t think people have shied away. Like we’ve talked about, this stuff can be cyclical. Certain things work in certain years, but that’s why you have a holistic portfolio. That’s why you balance, even when rates were close to zero.
I remember going on, whether it’s in print or TV or in front of clients, you still need a fixed income. It provides that ballast in the event that equities go sideways. They didn’t go sideways for a long time-
Dave Nadig: It didn’t work last year so well.
Pat Chiefalo: Last year not as much, but over a long period of time it still provides that help and support.
Dave Nadig: Of course.
Pat Chiefalo: And now that a super-conservative basket of fixed income securities can yield five, maybe even 6%, incredibly attractive. So, markets change, and markets evolve. I think portfolios, if you build them right will last you into the long term and without the need to swing them around with big moves trying to cater to the trend of the day.
What Is on the Horizon?
Dave Nadig: All right, a couple of last-minute questions here before we wrap up. I always think of Canada as having a much more active regulator in a positive sense than the US. We have our regulators certainly active, but they’re generally active by inactivity. We recently had some changes to things like the HSA products here and some changes in bank regulation around that.
Is there anything on the horizon that as a Canadian investor and the manager of a Canadian investment business you think we need to get over this hurdle, that this regulatory block is what’s next, that we need to restructure this part of distribution? What’s sort of keeping you excited or up at night about the plumbing of this business?
Pat Chiefalo: I don’t think there’s anything big. I don’t think there’s anything like that. We’ve been around for decades now in this space. We’ve gone through credit crisis, we’ve gone through market corrections, we’ve gone through whole sorts of things. ETFs have continued to work and continue to work super well for investors. I don’t think there’s any major shift that’s needed or part of the market that needs to be fixed. There’s always kind of tweaking, editing, and new products coming on the market. Let’s give them a second look like OSFI did recently. All these things are important and I think only serve to provide a more robust framework around these products. But I think for the most part these have worked incredibly well.
It’s good that regulators from time to time do a thorough review, and look at certain parts of the market. More recently, they’re looking at secondary market trading. They’re looking at creation and redemptions. They’re looking at the ARB mechanism. These are more nuanced and maybe more or less understood parts of the market, so it’s great that they’re looking at them. Let’s look at them, let’s see if there’s anything interesting there that’s worth noting. But I don’t think there’s anything large looming. I think we’ll just see a continuation of the evolution of the space.
Dave Nadig: I keep looking for something because every time I feel comfortable, that’s when I get nervous.
Pat Chiefalo: Of course.
Dave Nadig: And I look around the major markets, which I think of as sort of U.S., Canada and European ETF markets. Everything seems pretty well baked, there doesn’t seem… Obviously, there’s lots of little stuff-
Pat Chiefalo: We’ve gone through a lot. I mean, I remember staying up late at night and sleepless nights about worrying about our fixed income ETFs during the early 2000s, the credit crisis of ’08, and ’09. We’ve been through a lot of different market challenges and ETFs have continued to be resilient. There’s no alternative to experience. And they’ve had a lot of experience in a lot of different markets. Every year presents, it feels like always something different, but so far it’s been really, really well.
Dave Nadig: And there’s guys like us staying up all night worried about it.
Pat Chiefalo: We do. We do, and I do. Yeah.
Dave Nadig: This has been great. Thanks very much.
Pat Chiefalo: Awesome. Thanks for your time.
Dave Nadig: This was super fun.
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