One of the world’s fastest-growing markets for exchange-traded funds has hit a speed bump as Australia’s regulator tries to tackle concerns around transparency and conflicts of interest.

The Australian Securities & Investments Commission in July asked exchanges to stop admitting managed funds that don’t disclose their portfolios daily and have internal market makers. With the review not scheduled to be completed until the end of the year, funds are either sitting on the sidelines awaiting clarity or retooling their offerings.

“In short, the ASIC review is having an impact on active ETF growth,” said Camilla Love, managing director of eInvest, a provider of active ETFs. Work on two equity funds in the pipeline has been halted until ASIC completes its review and there’s more certainty about the operational outlook, Love said.

Assets in Australian ETFs and related products surged 41% to almost A$60 billion ($41 billion) in the 12 months to October, according to data from the Australian Securities Exchange. Though a fraction of the $4 trillion market in the U.S., they are projected to grow rapidly. Funds in ETFs will reach more than A$100 billion by 2022 and A$600 billion by 2030, estimates financial services data provider Rainmaker.

Active Concern
While passive funds that track a benchmark dominate the Australian market, it’s active ETFs -- a small but fast-growing segment-- that has caught the eye of the regulator.

Because there’s no requirement to disclose their holdings daily, some active managers in Australia have preferred not to publish that information to protect their intellectual property and prevent competitors from copying their portfolios.

In such instances, external market makers have been reluctant to take on the risk of quoting bids and offers, and that’s seen the fund manager double up as the market maker. ASIC says that arrangement is fraught with potential conflicts of interest, because only the fund manager has timely information about the value of the fund’s underlying holdings.

“We have concerns that the profit generated from internal market making is not well understood by investors and may lead to inherent conflicts and unequal treatment among different groups of investors,” ASIC said in an earlier review in 2018. It cited the possibility of “an unfavorably low bid price” being set for a member seeking to sell units in the fund.

The regulator plans to complete its latest review by the end of the year and hasn’t yet decided its next step, according to a spokesman.

Transparency rules vary from country to country. In the U.S., almost all ETFs -- passive and active -- must disclose their holdings daily. However, the securities regulator has recently approved a new type of active ETF that will disclose quarterly in line with mutual-fund requirements. They will still have external market makers, who will use an indicative value of the portfolio to make a price.

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