Last week, there was some big news in the world of exchange-traded funds (ETFs) and it didn’t involve new fund launches or performance of existing products. Rather, in a widely anticipated move, the Securities and Exchange Commission (SEC) passed what is being dubbed as the “ETF rule” or Rule 6c-11.
The ETF rule is aimed bringing regulation of the fast-growing asset class into the 21st century, which is to the benefit of ETF issuers, such as institutional investors, financial advisors and everyday retail players.
“The adoption will facilitate greater competition and innovation in the ETF marketplace, leading to more choice for investors,” said the SEC in a statement. “It also will allow ETFs to come to market more quickly without the time or expense of applying for individual exemptive relief. In addition, the Commission voted to issue an exemptive order that further harmonizes related relief for broker-dealers.”
Whether the new ETF rule means investors will soon see more funds addressing unique asset classes, such as cannabis stocks or cryptocurrencies, remains to be seen. However, it is clear that the ETF rule is a win for investors, particularly those in the retail crowd who have widely embraced the asset class due in large part to ETFs’ low costs.
“As the ETF industry continues to grow in size and importance, particularly to Main Street investors, it is important to have a consistent, transparent, and efficient regulatory framework that eliminates regulatory hurdles while maintaining appropriate investor protections,” said SEC Chairman Jay Clayton.
What the Pros Say
In Wall Street circles, adoption of the ETF rule was almost universally applauded. Luke Oliver, a managing director at DWS, the issuer behind the Xtrackers ETF brand, said the new rule could bolster innovation and issuance of fixed income ETFs.
That’s important because more and more professional traders are turning to fixed-income ETFs to source liquidity in certain areas of the bond market and they are using ETFs to do so over specific bond issues. Earlier this year, global bond ETFs hit $1 trillion in combined assets under management for the first time, a tally that’s expected to double over the next several years.
Naysayers may assert that, of course. ETF issuers will be enthused by the new rule, but some independent analysts see benefits, too.
By treating ETFs as an investment product different from mutual funds, the SEC has taken steps to improve ETF investor education and make it easier for asset managers to run and launch products,” said CFRA Research Director of ETF & Mutual Fund Research Todd Rosenbluth in a note out last week. “Whether there is demand for such offerings will be made by investors.”
Rosenbluth also highlighted the new rule’s potentially positive impact on the total cost of ETF ownership, an issue that extends beyond the expense ratio paid by investor.
“The rules will provide greater transparency about the trading costs investors should expect with individual ETFs, should allow asset managers to work more closely with institutional investors to support liquidity of these ETFs and provide guidelines for asset managers seeking to launch new products in a timely manner, which should drive price competition,” he said.
Bottom Line on Rule 6c-11
Rule 6c-11 also mandates some provisions that some ETF issuers are already in compliance, including publishing premium/discount and bid-ask spread data on their websites. Both of those are points that play pivotal roles in determining investors’ total cost of ETF ownership.
Additionally, Rule 6c-11 allows for ETF issuers to use custom baskets that can vary throughout the trading day as long as the issuer articulates to investors how these bespoke baskets benefits users. That feature is expected to minimize the impact of big portfolio changes and mute capital gains exposure, something ETFs are already proficient relative to actively managed mutual funds.
One interesting tidbit about the new rule: it doesn’t apply to some existing ETFs, such as the SPDR S&P 500 ETF (NYSEARCA:SPY) because SPY is structured as a trust, not a traditional ETF. The rule also doesn’t apply to many Vanguard ETFs because many of that issuer’s ETFs are structured as share classes of previously existing index funds. Rule 6c-11 is also not applicable to inverse and leveraged ETFs.
Todd Shriber does not own any of the aforementioned securities.
