London Beats New York in Attracting Saudi ETF Investor Billions

#Markets

Investors betting on Saudi Arabian shares are showing a clear preference for funds listed in Europe over the U.S. The contrasting picture may come down to which market offers lower fees and more attractive treatment on taxes and dividends.

An exchange-traded fund focused on Saudi equities offered by BlackRock Inc. in New York since 2015, the year when the oil-rich kingdom started opening up to foreigners, drew net inflows of about $626 million this year, quadrupling in size from the end of 2018.

Still, that’s dwarfed by the $1.5 billion that has poured into BlackRock’s London-listed ETF, which has very similar objectives but is only three months old. A London-listed fund run by Invesco Ltd. that was started last year has attracted $1.1 billion in 2019. Both European options are now bigger than their American predecessor.

Saudi stocks have outperformed as index compilers including MSCI Inc. promote the biggest market in the Middle East and Africa to their major emerging-market benchmarks, spurring billions in purchases by passive investors. The New York and London ETFs are studded with large caps that will benefit from the upgrades and have become a favored option for individual investors placing a wager on the Saudi market.

BlackRock started its London fund after “significant client demand for an exposure to take advantage of Saudi Arabia’s reclassification,” a spokeswoman for the world’s largest asset manager said in an emailed response to questions.

As Saudi Arabia’s elevation by index compilers moves forward, investors could be favoring the European funds due to lower fees and the greater flexibility they offer in terms of dividend treatment, according to Louis Odette, an ETF analyst and strategist at Citigroup Inc. in London. Differences in withholding tax treatment may also play a role, he said.

Some investors may also prefer funds run under European Union rules, according to Odette. “Operational preferences and familiarity with the UCITS framework can be relevant.”

That acronym refers to Undertakings for Collective Investment in Transferable Securities, the 34-year-old framework of regulations for funds that are officially based and sold in the EU, but can be managed from New York, Hong Kong or elsewhere. The EU has set rules on funds’ liquidity requirements, risk limits, transparency and leverage, and UCITS products can use derivatives to create some leverage and short exposure, but not as much as traditional hedge funds.