Behind The Scenes: Taking A Closer Look At NASDAQ Indexes

by on August 7, 2013 | Updated August 8, 2013

Though ETFs have been on the scene for a number of years already, passively-managed funds continue to dominate the space – as these products typically feature lower fees and more transparency. And though the indexes these ETFs track have evolved to utilize nearly every investment strategy, the methodologies behind these indexes are sometimes overlooked by investors. John Jacobs, NASDAQ OMX Executive Vice President and head of NASDAQ OMX Global Indexes, recently took the time to discuss NASDAQ OMX’s lineup of compelling indexes and what investors should consider before choosing an index [see Free Report: How To Pick The Right ETF Every Time].

ETF Database (ETFdb): NASDAQ OMX has recently made a big push into the indexing space – what are some of the acquisitions/partnerships the company has undertaken?

John Jacobs (JJ): NASDAQ OMX acquired the index business of Mergent, Inc., then owner of the Dividend AchieversTM Indexes, in December. With this acquisition, NASDAQ OMX Global Indexes became one of the world’s largest providers of dividend-themed indexes based on benchmarked assets. Assets under management of exchange-traded funds licensed by NASDAQ OMX Global Indexes increased at the time about 30% percent.

In this transaction, we also acquired Indxis, Mergent’s index services and solutions provider, further enhancing our custom index offering capabilities and services. Indxis is also a provider of index calculation services to a wide spectrum of clients in the financial services industry.

The NASDAQ Dividend Achievers Indexes, which tracks companies with long-term dividend growth, has been incorporated into our growing family of dividend and income indexes. The NASDAQ Dividend and Income Index Family covers a variety of income-generating indexes. Products based on the Family are offered by major investment management firms worldwide. There are 28 products following these indexes with more than $22.5 billion in assets under management.

In June, we announced a new partnership with Accretive Asset Management, LLC, the creator of the innovative BulletShares® Corporate Bond Index family, which has also been folded into the NASDAQ Dividend and Income Family. Accretive met the needs of investors by developing the first fixed-maturity corporate bond indexes. We are helping Accretive expand the BulletShares brand globally and bring these indexes to investors around the world.

ETFdb: As the number of ETFs has grown rapidly over the past few years, how is the indexing industry evolving?

JJ: We are seeing a trend of more indexers competing on value and brand. In the current market, indexers must have cost-effective benchmarks and a credible brand. They must have well-constructed indexes and be able to deliver vast amounts of quantitative historical data on those indexes. More than ever, indexers must compete on the ability to deliver through global distribution channels the product set that investors want. The indexes must be useful, and people want to pay less. That’s the changing world [see 10 Questions About ETFs You've Been Too Afraid To Ask].

We believe the overall number of indexes will grow, but they will be far more concentrated among indexers. There will eventually be a dozen major index players, or less. And then there will be a bunch of small niche players. We think everyone in the middle is going to go away, either to be swallowed up by a bigger provider, or to become smaller, more of a niche player. And because NASDAQ OMX Global Indexes is already a low-cost producer with robust data sets and superior global data distribution channels, we will continue to thrive in this business.

ETFdb: What should investors consider when choosing an index?

JJ: We’ve learned that an objective, transparent, rules-based methodology makes better indexes and better tracking. We think NASDAQ OMX Global Indexes is well-positioned in this space. And because of our technological advantages, it’s going to be hard for everyone else to compete with us on cost.

With the widespread adoption of best-practice industry standards amongst established index providers (e.g., transparency, rules-based selection, free-float weighting), the need for market-cap weighted indexes has become very much commoditized. This leads one to believe the choice of benchmarks should be driven by the quality of data, level of service and cost. Up to now however, pension fund consultants and asset owners have been unaware of the fee levels their service providers have had to pay for index data, and there has been a lack of lower-cost alternatives for managers to consider.

Recognizing this need for high-quality, cost-effective benchmark alternatives for institutional investors, NASDAQ OMX has leveraged its world-class INET trading technology and its established index success in the structured products arena to offer a suite of transparent, rules-based global equity indexes to compete against industry incumbents.

As an exchange, we also enjoy some great advantages of being an index provider. One advantage is that I can get more visibility for a lot of our index products.

For example, when an ETF sponsor is analyzing two comparable indexes to pick as the basis for a product, one important dimension is the ability to have a derivative product like an index option or index future launched in support of the ETF. Because we own options and futures exchanges in the US and Europe, I can guarantee, if it’s eligible, to have an option or future launched on that index in the U.S. Our team will go out and do the work, and we’ll pay the costs and front the money to get it launched. Indexers who don’t own options and futures markets can’t do that.

ETFdb: What are the benefits for ETF providers to use a third party indexer versus self-indexing?

JJ: There are a number of benefits of using a third party indexer such as NASDAQ OMX Global Indexes. First, third party indexers tend offer investors more information. Real-time and historical data are very important and indexers are better positioned to deliver this massive dataset to the public. The data sets help investors better understand their risk profiles based on the index and thus the tracking product. Number two is brand: product sponsors are governed by rules that limit what they can say about indexes. But independent indexers, which tend to have higher-profile brands, can more efficiently raise the awareness of their indexes. Also, third party indexers aren’t hindered by potential conflicts of interest self-indexers are. How credible is a self-indexer who tells investors to invest in products that are linked to indexes they own? NASDAQ OMX Global Indexes doesn’t have conflicts of interest because we don’t manage funds  [see The Complete History of SPY].

Moreover, indexing is becoming a more cost-conscious business. NASDAQ OMX has highly efficient technology which decreases production and other costs that are passed onto investors. The bottom line is lower basis points matter. We offer low-cost indexes with more visibility and are effectively challenging the status-quo in the global indexing sector.

Bottom Line: When it comes to choosing which ETF is right for you, investors should take a close look under the hood of each product, as the methodologies behind underlying indexes can have significant impacts on bottom line returns. For those looking for a good place to start, NASDAQ OMX’s indexes offer several compelling options.

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Disclosure: No positions at time of writing.