Leveling the ETF Playing Field

Beyond speeding up the authorization process, the new rules should help to level the playing field. Under the exemptive relief regime, ETFs were approved on a case-by-case basis. “Over time the SEC’s thinking on ETFs evolved and some ETFs have ended up with permissions that are not available to others,” notes Kelli O’Brien, Director of Fund Administration at Citi. “Creating a streamlined and standardized approach to authorization should help eliminate this disparity.” To further level the playing field, when the transposition period ends in late 2020, the SEC is rescinding all previously granted exemptive relief for ETFs that are in scope of the new rules. Custom Baskets for All Another aspect of the SEC’s new rules is the extension of the ability to create custom creation/redemption baskets to any fund covered by the new rules. When ETFs create or redeem shares with the Authorized Participants, who act as market makers for the ETF, a basket of securities changes hands. Typically, the basket is a mirror of the underlying ETF portfolio. However, some ETF providers had received permission to use custom baskets that do not fully match the ETF portfolio. Extending the ability to use custom baskets levels the playing field and gives all managers more flexibility to run their ETFs. This flexibility can help ETFs run more efficiently by minimizing internal trading costs. iNAVs for None The SEC has removed the requirement for an ETF to calculate or disseminate its intraday Net Asset Value (iNAV). The iNAV was an intraday calculation of the ETF’s underlying portfolio that was typically produced every 15 seconds. The intent of the iNAV was to provide investors with real-time transparency into the ETFs. However, as the ETF marketplace evolved to include more niche assets, the iNAV became less effective. The 15-second delay in publication meant that all prices were inherently stale and the iNAVs were frequently inaccurate. According to ETF.com, iNAV data for US ETFs was incorrect 80% of the time. Though the SEC has scrapped the iNAV, it is still required by the various exchanges as part of the listing requirements. So, the iNAV is not quite dead; however, expect industry pressure on the exchanges to modify their rules. Double-Edged Sword The process of harmonizing the ETF rules swings both ways and existing ETFs will face new reporting requirements. There are three key reporting requirements that will impact all ETFs. Basket Disclosure All ETFs will have to publish their creation/redemption baskets daily before the market opens. While many ETFs already publish their daily portfolios, the requirement to publish baskets is new and will apply to all in-scope ETFs. Trading Disclosure ETFs will have to publish their net asset value and the derived premium/discount daily and make historical data available on their website. Additionally, ETFs will have to disclose the prior year’s median bid/ask spread. These rules standardize the disclosure requirements across all ETFs. Custom Baskets Any ETF that avails itself of the ability to use custom baskets will have to establish written procedures that explain under what circumstances a custom basket might be used and how it is in the best interest of the fund and investors. This is a new requirement that would apply to all in-scope ETFs.