Precidian Investments, a fund industry intellectual property
firm that's also behind the Maxis Nikkei 225 ETF (NYSEArca:NKY),
filed regulatory paperwork to gain permission to market
nontransparent, actively managed
that's almost identical to paperwork iShares' parent BlackRock Inc.
filed in the summer of 2011.
Unlike already-live transparent active ETFs, like Bill Gross'
now-$4 billion Pimco Total Return ETF (NYSEArca:BOND), Precidian's
"exemptive relief" petition to the SEC is asking to market ETFs
that have periodic portfolio disclosures, such as those the
commission requires for mutual funds. It's also quite unlike plans
for nontransparent ETFs the mutual fund company Eaton Vance has in
At the center of Precidian's and BlackRock's plans is a blind
trust working on behalf of the authorized participant (
) that would keep disclosure of portfolio holdings under wraps
until regulators require it. Existing mutual funds must disclose
holdings every three months with a lag, and it appears BlackRock's
plan, if approved by the SEC, would include disclosure requirements
similar to those in place for mutual funds.
"While the funds are nontransparent ETFs, Applicants do not
believe that the Funds raise any significant new regulatory issues
or that the lack of disclosure regarding a Fund's portfolio
holdings on daily basis will in any way make the fund more
susceptible to manipulation for the benefit of one group over
another," the filing said in a turn of phrase that was
to one found in the BlackRock petition in 2011.
However, while the Precidian and BlackRock petitions for relief
are clearly quite similar, they aren't entirely alike. It appears,
for example, that a special arbitrage window aimed at keeping the
price of such nontransparent active ETFs in line with their net
asset values that would open on select occasions would be more or
less open all the time in the version contemplated by
Day to day, APs for the products would effectively be doing
creations and redemptions for cash and hedging the funds based on
the fact that they could redeem shares for the exact cash value of
the funds' net asset value (
). Creations and redemptions would happen in kind in the blind
trust, allowing the fund to enjoy some of the tax efficiencies that
transparent ETFs currently enjoy.
Crucially, the blind trust would be able to do what APs at the
center of any index-based ETF are able to do as well, such as
eliminating higher-cost securities to get rid of imbedded capital
gains at the fund level. Such cherry-picking of securities is a key
reason ETFs are considered to be more tax efficient than mutual
The Precidian and BlackRock concept goes to the heart of an
ongoing pursuit in the money management industry to provide
strategies that aim to beat market benchmarks. A big part of that
pursuit is a belief among managers that keeping portfolios secret
gives them an edge over others in the market.
Without that, they say, anybody can quickly steal their "secret
sauce" and undermine their edge.
Officials at New Jersey-based Precidian declined to comment on
the filing, a customary response when it comes to conforming to
regulatory quiet periods.
Transparent Active Funds
Precidian's and BlackRock's plans amount to radical departures
from actively managed strategies to date.
As it stands, the SEC requires daily disclosure of portfolio
holdings of active ETFs, and most indexed ETFs choose to disclose
their full holdings daily.
Companies like Pimco and WisdomTree have had some success
gathering assets in such actively managed strategies that disclose
The most successful funds thus far are in the fixed-income
space, such as Pimco's BOND, and the Pimco Enhanced Short Maturity
Strategy (NYSEArca:MINT), which has $2.6 billion, according to data
compiled by IndexUniverse. Additionally, the WisdomTree Tree
Emerging Markets Local Debt Fund (NYSEArca:ELD) has gathered more
than $1.76 billion.
As things stand, less than 1 percent of the $1.425 trillion in
total U.S.-listed ETF assets is invested in active strategies.
A Nontransparent ETF Future?
Boston-based Eaton Vance, as noted, has said it's planning to
market nontransparent ETFs using patents it obtained when it
acquired Managed ETFs, a company owned by longtime ETF industry
consultant Gary Gastineau.
The Eaton Vance plan centers on the use of trading based on a
fund's end-of-day NAV.
NAV-based trading allows managers of nontransparent funds to
trade securities throughout the day at prices determined at or
relative to NAV values calculated on that day.
It's an idea that makes some advisors wonder whether the trading
efficiency of ETFs might be compromised if intraday purchases and
sales wouldn't be definitively priced until the end of the
A Different Ball Of Wax
The disclosure requirements described in the Precidian and
BlackRock filings seem to be much closer to currently prevalent
disclosure requirements for mutual funds.
That's significant because a number of industry sources say that
the many mutual fund companies that have made tentative steps
to begin offering exchange-traded funds might leap head-first into
the ETF business if they could keep their portfolio disclosures to
a minimum, as they do now.
Mutual fund companies are also said to be loath to transition
assets from existing funds into cheaper funds. Moreover, much of
the mutual fund industry's success is predicated on a well-oiled
That means that assets segueing into ETFs-where distribution
infrastructure is relatively undeveloped-would mean the mutual fund
industry would lose contact with many of its end investors.
More Mechanics Of Nontransparent ETFs
Regarding creations in the proposed structure, the Precidian
filing-again with the exact same language as the BlackRock
"Since Creation Units will be created solely by the deposit of
cash and will typically be redeemed by distributing securities of
the fund's portfolio to a blind trust that will liquidate the
portfolio securities in accordance with instructions from the
authorized participant redeeming shares, neither the adviser nor
the fund sub adviser will be able to cause an authorized
participant to engage in transactions in which the funds could not
engage directly or to otherwise use the in-kind process to
circumvent applicable restrictions under the Act."
Also, when ETF shares are liquidated, the AP would receive
cash-again, never knowing what made up the ETF shares that the
blind trust redeems.
Crucially, the blind trust becomes a part of the creation and
redemption mechanism that is at the center of how an ETF functions.
Because that doesn't change, that means tax inefficiencies and cash
drag that are the Achilles' heels of many mutual funds are likely
to be neutralized under the proposed structure.
When faced with redemptions, the fund would have two choices of
response:It could raise cash at the fund level if it has a loss it
wants to lock in for tax reasons, or it could hand out shares
in-kind to the blind trust that would then liquidate shares on
behalf of the AP.
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