The cost impact of PRIIPs Regulation on the European ETFs market: an analysis of Expense Ratio and Bid-Ask Spread

Abstract

In the recent years, Exchange-Traded Funds have attracted increasing interest in financial market. The popularity of these products among investors is explained by very attractive management fees, tax efficiency and the possibility of diversification. On the European market, these new products have not been slow to attract the attention of the market authorities. In its objective to protect retail investors, the European regulator has introduce new regulation and directive to supervise investments products. The latest is the PRIIPs regulation which stands for Packaged Retail Investment and Insurance-based Products. The regulation came into force on January 1, 2018, and requires the creation of a Key Information Document (KID) by funds that want to be distributed on European financial market place. Since then, European retail investors no longer access US-domiciled ETFs if these funds do not produce the KID. In this thesis, we investigate the impact of the PRIIPs Regulation on European ETFs cost metrics that are the Expense Ratio and the Bid-Ask Spread. We study these metrics by including several fund’s parameters using panel regressions. The studied parameters are the fund’s Size, Cash ratio, Turnover ratio, Age, Competition, its Underlying Basket Spread, the Volume, the Replication Method, the Management Style and the VIX. In a first step, the panel regressions study the Expense Ratio and the Bid-Ask Spread of European and American ETFs. These regressions highlight variables that have a positive or negative influence on the fees (i.e. the expense ratio) and on the spread. It is assumed that the PRIIPs impact is reflected in the error term of European panel regressions. The second step makes prediction by fitting the observation of European ETFS in the US models. A first prediction is made for the Expense Ratio and a second one is made for the Bid-Ask Spread. This allows to predict European ETFs costs in a market environment not subject to the PRIIPs regulation. The predictions gives nuanced results with regard to the impact of PRIIPs regulation on European ETFs costs. This opens the door for alternative analysis of the components of ETF’s cost metrics in order to provide more indication on the cost impact of PRIIPs Regulation.