Markets

Are Nontransparent Active ETFs in the Offing?

The tables seem to be turning for the$2.6 trillion global ETF industry, which is dominated by passively managed or index-tracking funds. However, their low cost and transparent structure made them highly coveted.

One of the major drawbacks of actively managed ETFs is the obligation of disclosure of daily portfolio holdings, which run the risk of enabling "front-running" of portfolio trades. This means that the revelation of stock holdings will give the issuer's competitors or other investors the chance of cashing on advance information.

Investopedia goes on to explain that apart from front-running, real-time information on holdings changes in an actively traded ETF and are likely to face logistics issues as ETFs trade throughout a trading session and managers are likely to alter holdings several times in an hour as per their requirement.

Under these circumstances, numerous big asset managers including JPMorgan are pitching for the necessity of active ETFs with nontransparent characteristics, meaning an active ETF not revealing holdings on a daily basis. Not only JP Morgan, BlackRock Inc ., American Funds owner Capital Group Cos., and Legg Mason Inc. - all have appealed for the rollout of such of funds.

Inside Nontransparent Active ETFs

The concept was first formulated by Precidian and known as ActiveShares and is seeking approval from the Securities and Exchange Commission. Recently, JPMorgan signed a letter of intent to license for ActiveShares' model.

As per Wall Street Journal , the approval to the Precidian approach would enable firms like J.P. Morgan, Invesco Ltd. and BlackRock to alter the structure of their mutual funds without divulging their portfolio composition to the likely followers.

The SEC has been reluctant to permit nontransparent products because it would be tough to evaluate the real-time value of an ETF's stockholdings if these are not reported on a timely manner, per the source.

However, Precidian would apparently post the real-time value of its holdings on exchanges. Custodians will know about new share creations and redemptions but keep the details of the trades secret (read: ETMF: A Mutual Fund in an ETF Wrapper? ).

Why Such Urgent Need?

Investors should note that active ETFs with their high-cost structure are falling behind. The expense ratio for active ETFs range from 0.08% to 3.29% while charges are pretty low for passive ETFs. This also happened because issuers recently engaged themselves in a price war to gain market share. Blackrock recently cut the expense ratio of active ETF iShares Ultra Short-Term Bond ETFICSH from 0.18% to 0.08% (read: BlackRock Slashes Fees, ETF Price War Intensifies ).

ETF behemoths like Charles Schwab , Vanguard and BlackRock are presently enjoying first-mover advantages, making it harder for newcomers to make a place for themselves, as per the source .

So, gradually, issuers are turning more innovative and intend to come up with products that are more dynamic and suit the current improving-but-volatile market conditions. We believe that if Precidian's strategy gets a nod from the SEC, things may become a little easier for newcomers filing for niche or active ETFs. At the current level, market watchers are of the belief that Precidian's approval could give the U.S. ETF industry access to a lot of investor capital.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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