ICI to regulators: When knocking ETFs, please be specific

Regulators have to watch out for painting all exchange-traded funds with the same “systemic-risk brush,” the Investment Company Institute warned in a open letter posted on its website this week. The letter was in response, at least in part, to a recent European Financial Stability Board report on the state of the ETF industry. That report expressed concerns that the rapid growth in the ETF industry had brought “new elements of complexity and opacity” into the market. “There are a number of disquieting developments in some market segments which call for closer scrutiny,” the FSB report said. The April 12 report triggered a wave of headlines asking about the risks associated with ETFs, including one article that asked if ETFs were the next collaterized-debt obligations. What was missed in some of those stories: the international regulator is mostly concerned about synthetic ETFs, the ICI said in its comment letter. The FSB report posed questions about whether such products are transparent enough and whether there is a need for additional oversight to make sure they don't cause liquidity problems for large asset managers and banks. In its comment letter, the ICI agreed with the need for additional oversight of synthetic ETFs — but noted that any regulations should specifically apply to those instruments, not all ETFs. “The vast majority of ETFs globally do not share the two features that lead to [the regulator's] concerns, specifically single-swap portfolio, entered into with an affiliated counterparty, Karrie McMillan, general counsel at the ICI, wrote in the May 16 letter. In fact, the FSB's “generalized statements about the ‘ETF Market' have led to inflammatory media coverage,” she wrote. “In pursuing [its] goals, we urge the FSB to exercise caution in making broad statements about potential risk, and to identify as clearly as possible the sources of its concern, to avoid unwarranted negative public perceptions about investment products that do not share the attributes that are the basis for concern,” Ms. McMillan wrote. Advisers would welcome any clarification on this issue, particularly since most of the synthetic ETFs in the market today are in Europe, not the U.S., said Scott Burns, an ETF analyst at Morningstar Inc. “I am sure the news about the FSB report caused more calls to advisers, but this is really a European issue,” he said.