For most of us, the exchange traded fund is an index fund dressed up like a stock. It trades actively on the exchange. Investors can purchase the fund throughout the day and many of these ame investors have found this security a good place to follow trends. My only real concern with ETFs as they are more commonly known, is the temptation to trade them often, sometimes negating the low cost selling point with the cost of the trade.
But what happens when the passive ETF wants to become active? Index funds are like the current batch of ETFs, often much more specific in terms of the sectors they may cover. This is part of their attractiveness to some investors. This ability to drill down into a focused area of the market allowed investors to buy an index fund without committing to a long-term approach. Actively traded ETFs are looking to do the same but with some differences that investors should be aware of before they buy.
Many of the new actively managed ETFs will be converted mutual funds. There are several reasons for this the first being an established following. While ETFs mimicking an index competes based on the index it tracks, actively managed ETFs are not as easy to judge. Most actively managed mutual funds keep their holding close to the vest, considering this information to be vital to its competitive edge. If actively managed ETFs converted from mutual funds become reality, then this will force a new layer of transparency, even if the knowledge you gain will not be published until the following day.
Not only will the issue of transparency come to the forefront for these actively managed ETFs, tax efficiency will also play a major role in whether or not to invest. There is also what is known as the value such a conversion could bring to the fund’s current shareholders as well as to the existing track record. In many instances, it is this record of success that mutual fund companies hope to use to lure new investors.
While plans are still being formulated, Huntington Asset Advisors, according to a recent post at ETFHubs.com, “announced concrete plans to roll an existing mutual fund with a 9 year track record into a newly formed Active ETF.” This record of success along with the established reputation of the fund manager is what these companies hope with assure investors of what lies ahead in the future.
At the current time, there are only about 26 new actively managed ETFs available to investors, with only four being offered since the beginning of 2010. There is some speculation as to why the pace has slowed, even as the filings have increased. Some suggest that it may be due to the SEC derivative review these funds are subject to prior to launch or simply because not many star managers want to participate.
But many fund companies are simply sitting back and waiting to see what happens. Filing what is known as a placeholder filing, or as Shishir Nigam points out, the fund companies are avoiding any specific plans with what is known as an ”exemptive relief with the SEC” in part because they either do not or “have not yet disclosed any specific details on the actual product or strategy that they plan to launch.”
There are still a number of hurdles that need to be jumped. The perception of liquidity is one – if the fund doesn’t see high volumes of trading, it is considered illiquid even if it isn’t, transparency is another and possibly one of the most difficult for the industry to reconcile and the last is the advisor, who had previously received a fee for selling the fund to clients.
We could see more actively managed ETFs coming to market in the near future. But their success will hard to determine. And without that determination, many fund companies will simply hold back on their planned launch or not launch at all. Either way, in terms of retirement planning, actively traded ETFs should be avoided – at least in the short-term.
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