Good news about ETFs in South Africa

The introduction of actively managed exchange-traded funds (ETFs) on the JSE could mark a turning point for ETFs in South Africa.

Prescient Capital Markets managing director Ben Meyer explained that regulatory reforms often shape the evolution of financial markets, which can either accelerate or hinder growth. 

He said a prime example is the ETF market, where regulatory adjustments have played a crucial role in determining the pace of expansion. 

ETFs are similar to unit trusts, where money from many investors is pooled. However, instead of being under the control of a fund manager, it tracks a particular index.

For an example of how regulatory reforms can shape financial markets, Meyer pointed out that the US ETF market has flourished due to the country’s favourable tax treatment.

In contrast, South Africa’s ETF sector has experienced a more gradual trajectory, influenced by exchange control policies. 

“However, recent amendments to the JSE listing requirements could mark a turning point, unlocking new growth opportunities for investors and asset managers alike,” he said.

Since 2005, South Africa has had its own regulatory trigger that could have impacted ETF growth. 

In South Africa, ETFs structured as collective investment schemes (CIS) have been subject to different exchange control treatments from traditional CIS funds. 

Meyer explained that ETF managers have been permitted to invest 100% of their assets offshore, whereas traditional CIS funds were limited to allocating only 45% of overall retail assets to foreign investments.

“While ETFs that track foreign assets are still considered foreign from a prudential limits perspective, there are no restrictions on how much retail investors can allocate to these ETFs,” he said.

“This fundamental difference in treatment has shaped the landscape of South African capital markets.”

The National Treasury, which sets exchange control policies, introduced this relaxation in 2005 to expand market capitalisation, enhance liquidity on the JSE, and promote foreign diversification through domestic investment channels. 

The South African Reserve Bank (SARB) supported this initiative, as the JSE’s daily reporting of ETF flows aids in policy formation from a Balance of Payments perspective. 

Meyer explained that, in contrast, traditional CIS funds report foreign flows only on a quarterly basis.

“This preferential treatment was intended to drive growth in the South African ETF market,” he said. “However, the expected expansion has been slower than anticipated.”

This is partly because of the dominance of active management in South Africa and historical JSE listing requirements restricting ETFs to passive index-tracking strategies.  

Therefore, traditional asset managers have been reluctant to embrace index-tracking ETFs, limiting their uptake in the institutional market.

AMETFs join the JSE

This is set to change following a landmark regulatory change. At the end of 2022, the JSE amended its listing requirements to allow for Actively Managed ETFs (AMETFs). 

The JSE welcomed its first AMETF in May 2023, and this development sparked significant interest from active fund managers who wished to list them.

Therefore, for the first time since 2005, all ETFs – whether actively managed or index-tracking – now operate on a level playing field. 

“Given the natural investor demand for foreign diversification, this regulatory shift is expected to fuel ETF growth, leading to increased listings on the JSE and improved liquidity,” Meyer said. 

“Moreover, this development will generate more onshore fee income from foreign investments, further strengthening the South African financial ecosystem.”

He described the introduction of AMETFs and their favourable exchange control treatment as a “game-changer” for the local ETF market. 

“As more ETFs become available, their utility will become better understood, encouraging broader adoption by investors,” he said.

Meyer further explained that these changes align with the original objectives set by the National Treasury.

This includes enhancing capital markets, promoting foreign diversification through local investment vehicles, and fostering higher savings rates. 

“Crucially, this will all occur without negatively affecting South Africa’s Balance of Payments, as these investments are denominated in rand and will revert to the local economy when investors liquidate their holdings,” he explained.

“With regulatory barriers lifted, South Africa’s ETF market is now better positioned to align with global trends, paving the way for sustainable expansion and increased investor participation.”