Active exchange-traded funds for the most part have been slow to take off.
Although a number of fund companies have filed with the Securities and Exchange Commission to launch such funds, many are hesitant because they are worried about the consequences of disclosing their portfolio holdings each day. Specifically, firms are concerned that institutional traders or hedge funds will front-run their trades.
But in November, Eaton Vance Corp. raised eyebrows when it purchased the intellectual property of Managed ETFs LLC, whose work is designed to establish non-transparent ETFs. The acquisition came just a few months after Eaton Vance filed for exemptive relief to launch five actively managed fixed-income ETFs.
With the purchase, Eaton Vance — once it gets the nod from regulators — will be able to launch its own actively managed ETFs without disclosing holdings each day.
Thomas E. Faust Jr., Eaton Vance's chief executive, recently spoke in an interview about the company's plans for active ETFs and its vision for the industry.
Q. Why did you purchase the intellectual property of Managed ETFs?
A. We are interested in pursuing active ETFs, and we recognize that the transparency is a huge issue. It is certainly our view that for a large percentage of active strategies, it doesn't make sense to communicate to the world effectively in real time what you own and your trading activity. This is the only thing we have seen that represents a legitimate, holistic approach to how you make an ETF function in the absence of full disclosure.
Q. How would that work?
A. The concept is to use net-asset-value-based trading to provide a different form of arbitrage that doesn't require the full transparency and minute calculation of the portfolio. Today when you buy an ETF, you go to the market and have a bid-and- offer price, and you buy in that range. With NAV-based trading, you can go in at any point during the day and place an order, and the reference price for that trade is only determined at the end of the day.
Q. How far away is this from being a reality?
A. First, we need to get this kind of trading order approved by the SEC's Division of Trading and Markets. We have an application out to do that. Then we need a proof of concept, which means we would license the trading mechanism for other ETFs. We aren't looking to make a lot of money off trading index-based ETFs, which this could also be used for, particularly for those that invest in less liquid markets. We view this is a licensing opportunity. And then we need to get exemptive relief to launch active ETFs using this trading mechanism, which Gary Gastineau, one of the founders of Managed ETFs, filed for years ago. We don't think non-transparent active exchange-traded funds will be a 2011 event.
Q. If you get exemptive relief for the fixed-income active ETFs for which you have filed, will you launch them anyway this year?
A. We may introduce transparent active ETFs. We believe there are strategies for which full transparency is appropriate.
Q. Such as fixed income?
A. Yes.
Q. Speaking of fixed income, are you worried about the uptick in outflows in the municipal bond market and the potential for massive defaults?
A. I think there are long-term concerns about municipal finance. Many state and local governments have a lot of work to do to get their houses in order. I think there are some legitimate concerns about defaults or the threat of defaults, but for the vast majority of municipal issuers, our confidence that investors will be paid in full is very high.
E-mail Jessica Toonkel at [email protected].
