City veteran Terry Smith says news of the £1.3 billion loss at UBS, which resulted in the arrest of a trader, means risks with exchange traded funds (ETFs) should be regarded as ‘indisputable’.
The Fundsmith founder and Tullet Prebon chief says he has long thought there was a certainty the index tracking products were being sold and risks in running, trading, constructing and holding them were not “sufficiently understood”.
He says: “The losses of $2 billion incurred by an allegedly rogue trader on the Delta One desk at UBS have again raised the subject of the (lack of) risk controls by banks dealing in opaque instruments, the need to separate investment and retail banking and the risks inherent in ETFs.”
Smith says ETFs that are not physically-backed, investing instead in derivatives – so-called “synthetic” ETFs – could lead to counterparty risk.
He says synthetic ETFs could result in losses large enough where the counterparty not may not have sufficient capital to pay out the derivative contract and cause the ETF to fail.