Winning The Hearts And Minds
Asset managers planning to roll out actively managed, semi-transparent ETFs will need to crack the financial advisor market to be successful.
Three things could work in their favor. One is cost: ETFs have cheaper administrative costs than mutual funds, which should result in lower-cost products. And then there’s the tax efficiency of ETFs derived from the structure’s creation/redemption process, which typically eliminates capital gains distributions. Third, the companies associated with this potential new wave of ETFs have long track records and come with built-in brand equity that could score points with investors, financial advisors and the investment platforms that serve advisors.
“Realistically, it will come down to their large sales forces,” says Engelbart from CLS. “Education will be big, and semi-transparent ETFs will have both a strategy and a product structure people will need to be educated about. And there are five structures out there with differences in how they’re constructed. All of this is a brand new conversation beyond simply ‘This is an ETF, and this is how it works.’”
At the end of the day, McNinch believes transparency is basically a non-issue for most investors. “Investors are buying the strategy and the name of the asset manager’s brand. If I can have an active strategy at a lower expense ratio, that’s more tax-efficient than a mutual fund just because of the structure, I think that’s good for investors. That’s why I’m bullish on these structures and what they mean to the investor community,” he says.
McNinch says activity from product sponsors indicates that a slew of actively managed semi-transparent ETFs could hit the scene in 2020. If so, that could be the industry’s big story line of the year. The other big story line could be whether investors ultimately buy these products.
Four Proxy-Based Semi-Transparent ETF Structures
Blue Tractor Shielded Alpha
Blue Tractor’s Shielded Alpha discloses the securities that are in the actual fund each day, but won’t provide their individual weightings. Each day a proprietary algorithm will generate a proxy portfolio that has at least 90% overlap with the fund’s portfolio. Full profile disclosure: Quarterly, with 60-day lag
Fidelity
Fidelity’s proxy, called a tracking basket, consists of underlying fund holdings, ETFs and cash. The tracking basket will be derived through a proprietary optimization process, and the overlap between the fund and the tracking basket will be published to the fund’s website daily. Full profile disclosure: Monthly, with a 30-day lag
Natixis/NYSE Periodically-Disclosed Active ETF
Periodically-Disclosed Active ETFs allow for efficient trading of ETF shares through a proxy portfolio methodology owned by the NYSE. This methodology will employ a factor analysis of each ETF and its corresponding universe of eligible securities to create the proxy portfolio. The ETF’s proxy portfolio will closely track the actual portfolio and may change daily. The ETF will use a proprietary software developed by analytics company Axioma to allow market participants to assess the intraday value and associated risk of a fund’s portfolio. Full profile disclosure: Not addressed; presumed quarterly with 60-day lag
T. Rowe Price
T. Rowe Price’s proxy comprises a basket of cash and securities designed to closely track the daily performance of the fund’s portfolio. In addition to the proxy portfolio, each business day before the start of trading the fund will publish the portfolio overlap, tracking error and the deviation between the proxy and fund NAVs on a daily and rolling one-year basis. Full profile disclosure: Quarterly, with 60-day lag
Sources: Brown Brothers Harriman (“New Wave of Active ETFs Shield the Secret Sauce” report); Ropes & Gray (Non- or Semi-Transparent Active ETF Developments industry alert)