One of the most successful investment vehicles of the last decade could be sowing the seeds of the next financial crisis, a global financial watchdog has warned.
Pension funds and retail investors could lose billions of pounds in investment schemes sold widely in the US and Europe with the promise of low costs and higher returns than bank deposit rates.
The products have enticed investors into the soaring commodities markets, allowing them to enjoy huge returns from the rising price of oil, gold and silver in recent years.
The Financial Stability Board, which was created in the aftermath of the financial crisis to monitor financial transactions, said the rapid growth of exchange traded funds (ETFs) into a $1.2 trillion business was unnervingly similar to the derivatives market in sub-prime mortgages before the credit crunch in 2007.
Mario Draghi, the chairman of the FSB, said ETFs had all the hallmarks of a bubble waiting to burst and needed close monitoring by international regulators.
“ETFs are reminiscent of what happened in the securitisation market before the crisis,” he said at the IMF spring conference in Washington at the weekend.
Securitisation was widely used by banks to package and resell bundles of mortgages, in turn sold on as mortgage derivatives. The discovery of artificially inflated values for mortgage-backed securities was blamed as a key reason for the crash.
ETFs and index funds have taken about a fifth of the US fund market, attracting investors with lower costs than actively managed mutual funds.
They also offer tax advantages and easy access to markets and industries usually reserved for institutional investors, giving exposure to markets without the necessity of buying the product itself.