By Ari I. Weinberg
This year promises to be a fiercely competitive one for the
exchange-traded-fund market.
Blame it on the Securities and Exchange Commission. In December,
the SEC put into effect a rule that makes it easier to issue new
ETFs, especially those that disclose their underlying investments
daily. Impacts from the new rule will include less red tape for
launching new products and more flexibility in how ETFs build the
baskets of securities they use to manage assets flowing into and
out of their products.
The SEC last year also gave a green light to a new type of
actively managed ETF that isn't required to fully disclose its
portfolio daily. Together, these developments mean that ETF
investors could see a host of new issuers, including new actively
managed ETFs from established investment firms that have been slow
to enter the market. If analysis paralysis hasn't already set in
for anyone trying to pick from the nearly 2,200 ETFs now on the
market, according to FactSet, expect even more choices in 2020.
In terms of fund flows, 2019 was more business as usual. Net
flows into ETFs were about the same as the year before, $326
billion, split almost evenly between equity and fixed income.
Fixed-income ETFs saw an increase of about 18% in net flows,
reaching total year-end assets of $849 billion, according to
FactSet. Equity ETFs, working from a much larger base, added about
4%, reaching $3.4 trillion.
But while net flows were modest, returns on equity-based ETFs
for the year were not: The average unleveraged fund was up 24% on
capital appreciation alone, according to XTF.
Here are five trends in ETF markets to watch in 2020.
-- The ETF Rule is in effect. After years of fits and starts,
the Securities and Exchange Commission finalized an "ETF Rule" that
(as of Dec. 23) levels the playing field for asset managers and
investment advisers looking to launch an ETF product. The rule
permits fully transparent ETFs, which disclose their portfolios
daily regardless of investment strategy, to launch faster, without
having to seek exemptive relief from certain stipulations in the
Investment Company Act of 1940, which governs ETFs and mutual
funds. It also grants to all issuers the ability to customize the
basket of securities accepted for creation or redemption of an
ETF's shares. Many ETF issuers, particularly those who could use
custom baskets before the new rule, argue that custom baskets allow
them to be more flexible in how they move certain assets in and out
of the ETF efficiently.
-- A new kind of actively managed ETF. A set of potential
products explicitly outside the scope of the ETF Rule are also
gearing up for an interesting year. After almost a decade of
maneuvering, five ETF issuers were given the green light on
actively managed ETFs that don't necessarily disclose their full
portfolios daily. Precidian Investments, Fidelity Investments, T.
Rowe Price, Natixis and Blue Tractor Group all received approval
from the SEC for their proposed structures that provide some cover
for investment managers using a proprietary strategy, while also
delivering enough intraday information to generate
creation/redemption activity and keep prices in line with net asset
value. (Natixis is licensing a structure developed by
Intercontinental Exchange Inc.'s NYSE Group, while several fund
issuers have disclosed licensing agreements with Precidian.)
Details about pricing and timing are slowly coming out. So far,
Fidelity, Precidian and American Century, a Precidian licensee, are
seeking exchange approval for their initial products. T. Rowe Price
revealed management fees for four ETFs under their new structure
that are in line with institutional share classes for some of its
largest U.S. funds, such as its $70 billion Blue Chip Growth Fund
(TBCIX) which requires an initial investment of $1 million.
Matthew Bartolini, head of SPDR Americas research for State
Street Global Advisors, says that the various structures will need
to prove themselves in volatile markets. "How will market makers
react when spreads blow out [between price and NAV]?" he asks.
Institutional trading firms often watch ETF trading for any
discrepancies between ETF share prices and the underlying values of
the individual shares that make up the ETF basket. When there are
differences, these traders buy or sell the respective investments,
typically making a profit on the arbitrage. For the yet-to-launch
actively managed ETFs, however, many are expected to have proxy or
cash-only baskets making real-time calculations of an arbitrage
harder for traders.
-- The ABCs of ESG. Last year's buzziest acronym, ESG --
representing funds that invest along some notion of environmental,
social and governance screening or scoring of their investments --
will be under the microscope this year as the SEC is reportedly
looking into investing methodologies and disclosures around the
marketing of such funds.
"There is currently no standard on how to measure these
products," says Sal Bruno, chief investment officer for IndexIQ,
the ETF division of New York Life Investments.
Still, within ESG-related ETFs, investors couldn't get enough,
plowing $8.3 billion, or 42% of year-end category assets of $20.15
billion, primarily into equity ETFs, according to XTF. With many of
these funds just gaining assets and attention, performance and
index tracking will be the ultimate arbiter.
-- Free fallout. Retail trading commissions have hit the floor
(unless they go negative). No matter who started it, the end of
trading commissions for ETFs (and stocks) at many major brokerage
firms removes additional cost from owning and rebalancing a
portfolio of ETFs, relative to mutual funds.
State Street's Mr. Bartolini argues that this development will
drive more investors to the largest and most liquid ETFs, and away
from products that had promotional deals on their own and
third-party platforms. State Street, BlackRock and Charles Schwab
have all demonstrated that a commission-free ETF is an effective
way to build an asset base in broad-based index-tracking ETFs. In
October 2017, State Street announced a deal with TD Ameritrade to
offer low-cost, core-portfolio solutions commission-free to its
customers. That strategy helped drive billions of dollars into
State Street offerings very much in line with strategies already
offered by BlackRock, Vanguard and Schwab.
The elimination of commissions resets the field, and the planned
merger of Schwab and Ameritrade will make brokerage-based product
promotions even more challenging.
-- Increasingly "active." The ETF Rule and the inception of new
actively managed products couldn't come soon enough for an industry
that seemingly never saw a product it couldn't launch. In 2019, net
new ETF issuance came in at 121, compared with 159 in 2018,
according to FactSet. And 2020 starts off deep in the hole, with
Invesco already announcing plans to close 42 products as the
fourth-largest ETF issuer digests recent product additions from
OppenheimerFunds and Guggenheim Investments.
Market leaders BlackRock, meanwhile, with $1.7 trillion in ETF
assets under management and $115 billion in 2019 net flows, and
fast-rising Vanguard, with $1.1 trillion and $102 billion in flows,
have reached a size and scale that are hard to challenge. The heat
will be on for smaller, innovative issuers to protect their brands
and intellectual property or risk being subsumed by the large
issuers.
Mr. Weinberg is a writer in Connecticut. He can be reached at
reports@wsj.com.
(END) Dow Jones Newswires
January 05, 2020 22:19 ET (03:19 GMT)
Copyright (c) 2020 Dow Jones & Company, Inc.
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