A new type of ETF has just won approval from the SEC, and it could spur yet more growth in this $3.8 trillion market if it overcomes transparency issues: the ActiveShares ETFs owned by Precidian Investments. While many of the best-known ETFs are passive investment vehicles that track market indexes, the latest development will spur the launch of nontransparent actively-managed ETFs that do not have to make such daily disclosures. This is a radical change from the transparency that's been the hallmark - and a key selling point - for ETFs since their inception.
Until now, virtually all ETFs, no matter how they are managed, had to disclose their portfolio holdings on a daily basis. "This is wonderful news for investors as well as the asset management community," as Dan McCabe, CEO of Precidian Investments, told Barron's.
These ETFs must still cross several steps before they are used by investors, per the table below.
Nontransparent Actively-Managed ETFs Are Coming
- ActiveShares ETFs proposed by Precidian Investments in Dec. 2014
- Market participants have through May 3 to request a hearing
- Another division of the SEC needs to approve the start of trading
- It probably will be months before the first ActiveShares ETFs are available
- Other investment firms have licensed the ActiveShares structure
Significance For Investors
These new ETFs are likely to be offered by other firms in addition to Precidian. Legg Mason Inc. (LM), BlackRock Inc. (BLK), JPMorgan Chase & Co. (JPM), GAMCO Investors Inc. (GBL), and Nuveen are among those that have licensed the ActiveShares structure. Legg Mason has a minority ownership stake in Precidian.
"If you're an active manager, with intellectual property about trading and what you invest in, you don't want to disclose your holdings on a daily basis," McCabe told the Journal. He added, "Then you have people who can free ride or front run you."
Actively-managed mutual funds typically disclose their portfolio holdings only once each quarter. And similar to mutual funds, nontransparent active ETFs would disclose their holdings to the public only once each quarter on a 60-day delay, per the Journal. However, they also will release real-time aggregate valuations of their portfolios on a continuous basis so that that investors can verify that a fund's market price is in line with its portfolio value.
There are potential risks. "We should be keeping a very close eye on this, because we need to make sure the arbitrage mechanism works. If the ETF is mispriced, it's retail investors who pay for that," warns SEC Commissioner Robert Jackson, per the Journal. Calling transparency "the hallmark of our ETF regime for decades," as quoted by Bloomberg, Jackson voted against Precidian's proposal for ActiveShares.
Research by Bank of America Merrill Lynch indicates that net inflows into ETFs were $2.0 billion last week, a year-to-date high. Of this figure, $1.8 billion went into equity ETFs.
Skeptics say these news ETFs' lack of transparency could hurt their growth longterm. "Transparency I would say is in top five most beloved traits of ETFs--this challenges it. These are probably going to have a hard time," says Eric Balchunas, an ETF analyst with Bloomberg Intelligence. Meanwhile, the SEC is reviewing five other proposed structures for nontransparent ETFs, per the Journal.