Yield Perils

Last Updated: 16 April 2024

Does the story of the record fine for mis-selling imposed on Barclays hold any lessons for the ETF industry?

While it is a familiar story of the damaging effects of commission-driven financial advice, the Barclays scandal is also an illustration of the perils of chasing yield in an environment of low interest rates.

The bank’s customers, many of them elderly people who needed to maximise their income during retirement, were encouraged in 2007 and 2008 to switch money from their deposit accounts into two funds, the Global Balanced Income and Global Cautious Income portfolios, managed by Aviva.

Barclays’ advice was conflicted: its employees were motivated by the large commissions paid to them when clients switched into the Aviva funds, the names of which did not reflect the underlying risks.

The bank is not alone in having done such a poor job.  An article published in The Times in 2009 revealed several similar cases involving high-profile financial advisory firms.

The moral from the story is a refrain you will hear from anyone in the index fund or ETF business – do not take advice from anyone who has a financial interest in selling a particular product.  Instead, you should completely avoid commission-driven salespeople and find a fee-only adviser.  Alternatively, do it yourself.

But, at a deeper level, there are few reasons for those of us involved in the tracker fund industry to feel complacent.

Yesterday’s announcement of the fine imposed on Barclays coincides with a move in many risk assets to post-crisis highs, driven by record low official interest rates.

The maintenance of rates at a level several percentage points below inflation has led to a scramble for any yield-bearing instruments by those investors who are desperate for any means of maintaining their purchasing power.

If the Barclays-Aviva investors were suckered into buying poor-quality fund investments in 2007 and 2008 when rates in the UK were around five per cent, how many are being drawn into worse peril now that rates are near-zero?

I am not singling out any particular fund but it is noticeable that, as yields have collapsed over the past two years, there has been a flurry of launches of ETFs offering exposure to junkier debt.

Vanguard’s recent decision to postpone the launch of three municipal bond ETFs in the US follows a sharp sell-off in that market during November. John Woerth, a spokesman for the firm, was refreshingly open about the risks in the sector.  “With the high level of volatility in the municipal market,” he said, “it’s not an opportune time to launch three new products.  We believe the funds would have trouble tracking their benchmarks.”

With the bond market under increasing strain as speculation over interest rate rises intensifies, have the issuers of some of the ETFs tracking poorer quality debt drawn investors’ attention sufficiently to the risks – of losses, tracking problems or poor liquidity – they might face?

  • Luke Handt

    Luke Handt is a seasoned cryptocurrency investor and advisor with over 7 years of experience in the blockchain and digital asset space. His passion for crypto began while studying computer science and economics at Stanford University in the early 2010s.

    Since 2016, Luke has been an active cryptocurrency trader, strategically investing in major coins as well as up-and-coming altcoins. He is knowledgeable about advanced crypto trading strategies, market analysis, and the nuances of blockchain protocols.

    In addition to managing his own crypto portfolio, Luke shares his expertise with others as a crypto writer and analyst for leading finance publications. He enjoys educating retail traders about digital assets and is a sought-after voice at fintech conferences worldwide.

    When he's not glued to price charts or researching promising new projects, Luke enjoys surfing, travel, and fine wine. He currently resides in Newport Beach, California where he continues to follow crypto markets closely and connect with other industry leaders.

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