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Taxing Times Ahead?
By Joanne Christie | 02 February, 2012


He concedes, however, that this would also increase the pressure on those ETFs with high turnover levels, such as the Man GLG Europe Plus Source ETF run by the firm. “For the Man GLG Europe Plus Source ETF the predicted turnover is six times per year which equates to 60 bp of increased costs. However, the index does a pretty good job of outperforming so investors would just factor that in to their analysis.”

But Townsend Lansing, head of regulatory affairs at ETF Securities, says the number of intermediaries involved in ETF trading could lead to multiple layers of taxable trades and higher overall costs. “In the ETF chain there are quite a lot of opportunities for the tax and without actually knowing the detail of who is going to be paying the tax and whether there are going to be exemptions for duplicative or chained transactions, it is hard to speculate about which products will come out on top.”

An increase in market-makers’ bid-offer spreads is seen by most as an inevitable consequence of the mooted FTT and Bart Lijnse, managing director at Dutch market maker Nyenburgh, says this will be particularly pronounced if the tax is applied unilaterally in Europe.

“If physical ETFs cannot avoid paying tax on stocks in France, for example, it will increase their creation and redemption costs, which will impact the short term tracking error of the funds. They will trade in a wider range around net asset and with  a much wider spread, since market makers will pass on all taxes they have to pay. Funds that now trade at a 5 bp spread will then trade at 30 bp or more,” he says.

Lytle also points out that a Europe-wide FTT would negatively affect ETFs’ tracking error. “There are a lot of rebalancing trades that go on at the moment. If a fund gets out of line with its benchmark, the manager trades to get it back in line. With the imposition of a new tax, the trigger point on a rebalancing trade will move. It will raise the threshold of how far you have to be away from the benchmark before you rebalance—10 bp is only 10 bp but it will have an impact.”

For market makers, however, there could be a significant upside, says Lijnse. “The tax will open up a whole universe of arbitrage opportunities, similar to those caused by the UK’s stamp duty. Another effect will be that if the FTT is implemented across the EU it will reduce our operational risk because you don’t need to have expensive low-latency infrastructure anymore. If funds start trading with wider spreads then it could actually save market makers money. If spreads are larger they might not need to have that newest server. This will reduce investments in technology and technical innovation, which will be another cost to the economy that politicians overlook.”

If the tax is implemented only in some countries, such as France, it may also provide a boost to exchanges in other jurisdictions. Indeed, after Sweden introduced an FTT back in the 1980s, it saw a big migration of its most actively traded stocks to the London Stock Exchange.

Cass Business School’s Professor Philip Booth says that situation could be replicated if France presses ahead on its own. “The likely result of a transactions tax in France is that business will move elsewhere and economic recession in France will be entrenched. It is, indeed, incredible that one of the world’s most over-taxed and over-regulated developed economies should be imposing more taxation as part of a so-called recovery package.”

For ETFs, Lijnse says multiple listings may become less widespread. “Under the current proposal, if there is anybody in the chain involved in any one of those countries with the tax then they will have to pay it. There could be a scenario where many French investors will choose to buy in London. The spreads on the French exchange will go wider by a few times the transactions tax and issuers will probably delist their ETFs from those markets because nobody will trade them anymore.”

In a provocative move, both David Cameron and London mayor Boris Johnson issued an open invitation to any French banks wanting to escape the tax and said the UK was poised to benefit if Sarkozy’s plan went ahead. Whether or not a so-called Tobin tax will provide opportunities for some EU member countries at the expense of others remains to be seen, but the debate about its merits is not fostering much peace between Europe’s leaders.


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