One day after large asset managers like BlackRock, State Street and Invesco unveiled a proposal to more precisely label exchange-traded funds, some industry participants pushed back, calling the idea welcome in general, but misguided in practice.
The proposal from the self-named “industry coalition” asked three major exchanges — CBOE, Nasdaq and NYSE — to more clearly identify and categorize the different types of products that are all usually painted, in broad strokes, as “ETFs.”
As previously reported, that broad category includes funds that track assets as diverse as plain-vanilla stocks and commodities which can not only lose all their value, but also go negative. As markets have gyrated over the past months, rocked not only by the fallout of the coronavirus pandemic but also negative oil futures contracts, many unsuspecting retail investors have been swept along.
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The industry proposal “has everything to do with what we’ve seen in markets in recent months,” said Ben Johnson, director of global ETFs at research provider Morningstar.
The discussion isn’t new — the same players had brought a similar proposal to the SEC in the past — but the well-publicized troubles in funds like the United States Oil Fund LP USO, +4.38% “breathed fresh life into it,” Johnson said, and industry titans like BlackRock, owner of the iShares suite of products, are worried that investors will “fail to distinguish between various categories and exposures.”
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(BlackRock, State Street, and Vanguard are often referred to as the industry’s “Giant Three;” Vanguard’s name did not appear on the press release but a company spokesperson confirmed to MarketWatch that the asset manager did support the proposal.)
Johnson thinks the spirit of the proposal is sound, but the specifics are wanting. On Thursday he released a response suggesting what he considers a “more appropriate and intuitive” labeling system, which notably splits out leveraged and inverse funds from those that track options — products that he believes behave very differently, but would share a grouping under the industry proposal.
But for some industry participants, any kind of top-down policing is uncomfortable. Bruce Bond, founder and CEO of Innovator ETFs, helped build the ETF ecosphere decades ago. But more recently, as the founder of a smaller firm that applies the ETF structure to an unconventional asset class, he is now, to his surprise, “the little guy.”
“This is just really big companies coming together to try to squeeze out competition and build wider moats,” Bond said in an interview. “It’s un-American.”
Innovator’s “Defined Outcome” suite of funds UMAR, +0.37% , profiled by MarketWatch last year, have been wildly popular, winning industry accolades and proving their worth during a period of market turbulence in the spring. Under the proposal released Wednesday, they would fall into the category of “Exchange-traded instrument,” a broad catch-all for any fund that doesn’t meet any of the more precisely defined categories.
Bond doesn’t think the labeling would hurt the Defined Outcome funds’ ability to attract assets, per se — an opinion shared by Morningstar’s Johnson — but does worry it could be used by brokerages to deny access to their platforms.
It is unclear what next steps will be. “This is a cheeky move,” Johnson told MarketWatch. “They didn’t like what they heard from the SEC so they’re going to go and ask someone else. But the regulators are the appropriate venue for these conversations.”
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