How should AQUA II work?

How should AQUA II work, and what impact would it have if it did actually work?

The impasse between the ASX and ASIC is said to revolve around an investor agreeing that they have read an electronic version of a PDS vs actually receiving a hard copy and providing a wet (ie ink) signature.

That’s the consensus of our subscribers – but no-one has great confidence about where things actually are. If correct though, it seems a trivial issue for ASIC to get caught up on given that:

– Receipt of a PDS and provision of a wet signature is no guarantee that an investor has read the PDS.

– ETF investors face no such requirement. Not a big issue for simple ETFs over mainstream indices, which account for most ETF assets, but on the other hand there are increasing numbers of ETFs over specialized indices, rules-based ETFs, and exotic exposures.

The practical difference between ETFs and many managed funds – take equity income ETFs and managed equity income funds for example – is not particularly large. For such cases, it doesn’t make a lot of sense to insist on different rules. For mainstream managed funds available via AQUA II, the requirement should be no more than investors acknowledging (via tick box) that they have received and read a PDS.

This shouldn’t be universal of course. Non-mainstream funds can represent very different or high risks – for example illiquid or leveraged exposures – where different rules can be justified, assuming relatively simple yardsticks (such as liquidity) could be used as a dividing line.

The benefits of getting mainstream managed funds into AQUA II would be considerable.

As we explored last week, the investor experience could be improved dramatically. The tortuous identification and application forms could be completed just once when the investor’s broking account is established.

This would allow investors to purchase ETFs and managed funds at the same time, and in the same manner, which is simply efficient. A portfolio of ETFs and managed funds is often an attractive combination – using ETFs where tradability and low cost are important considerations, or where the exposure is a market where alpha is hard to come by; and managed funds for markets or managers where the alpha prospects are good.

This hints at the big benefit of AQUA II – a single operating model. The potential of AQUA II lies not so much in its standalone effects, but in its interactions.

We have a wealth management market which is gradually moving from intermediated to direct, and from unlisted to online and exchange based. AQUA II brings managed funds into the channels which benefit from these trends, and allows key segments to purchase managed funds in the same marketplace as they buy their ETF and direct share investments:

– Self-directed investors who prefer to use the ASX, and for whom the lengthy hard copy forms of a managed fund currently go straight into the “too hard” basket, if not the rubbish basket.

– Financial planners who are moving their operating model towards listed investments – AQUA II would allow them to easily continue using many of their favourite managed funds in the same way.

– Platforms which are equities focused, such as those being adopted by not-for-profit institutions – at present do not offer access to managed funds. AQUA II would allow such access to be easily opened up – this doesn’t guarantee that these institutions would do so, but it would at least get managed funds in the game.

So there’s more at stake with AQUA II than meets the eye. Many see AQUA II as a way of reaching the self-directed investor, especially those with an SMSF. That’s out there, but it’s far from the only opportunity. It’s an operating model story. Offline and unlisted is yesterday’s operating model. AQUA II makes managed funds online and listed, which is tomorrow’s.