New kind of actively managed ETF ready for premiere

The foundational landscape for a new type of actively managed exchange-traded fund has firmed up significantly over the past several weeks as several asset managers put the finishing touches on their initial active equity ETF offerings while awaiting final approvals.

One of the last frontiers in ETFs, these products will only disclose their full portfolios at least quarterly while using a variety of mechanisms to ensure that the fund trading price is in line with the per share net asset value. Currently, actively managed ETFs are required to disclose their full portfolios daily and their published trading baskets — used for creation and redemption of fund shares — by authorized participants are required to represent a pro rata slice of the actual holdings.

The current $106 billion market for actively managed ETFs is dominated by short-duration fixed-income funds, with only $14 billion held by equity products, according to XTF Inc. While a handful of asset managers have opted to offer completely transparent active equity products, most have preferred to wait for regulatory approval of structures that shield the underlying portfolios from daily disclosure.

Now, some of the largest U.S. asset managers are readying flagship products, pending approval for listing on Cboe Global Markets and NYSE exchanges.

Currently, the approved structures fall in to two camps. Precidian Investments has developed a process that fully replicates the tax efficiencies of existing ETFs through the use of authorized participant representatives. The AP representatives will create and redeem shares of the fund using cash, and serve as an intermediary to either buy or sell the actual underlying holdings in the fund.

Legg Mason, which made a minority investment in Precidian in 2016, is taking as much as a 75% position in the company. And Legg Mason's ClearBridge Investments subsidiary is looking to list a large-cap value ETF, but has not yet disclosed pricing.

Franklin Resources, which announced plans to acquire Legg Mason on Feb. 18, has not disclosed plans for any of the new active equity ETF models. Combined, the two companies currently list 51 ETFs with $6.4 billion in assets under management, of which four ETFs and $480 million constitute active U.S. equities.

American Century Investments, a Precidian licensee, has two ETFs that have been cleared for listing and has disclosed pricing at 0.45% and 0.42%, significantly below the average expense ratio for currently listed active ETFs. Precidian counts several large asset managers among its licensees as well, including Capital Group Cos., BlackRock Inc., J.P. Morgan Asset Management and Goldman Sachs Asset Management.

Alternatives to the Precidian model use a daily-disclosed proxy portfolio for the creation/redemption basket. T. Rowe Price Group Inc., Fidelity Investments, the New York Stock Exchange and Blue Tractor Group LLC all received approval for their structures using a proxy model last fall. While there are subtle differences in how each firm's proxy portfolio is set, and the parameters in which it relates back to the underlying holdings, they all essentially rely on some approximation of individual securities, cash, ETFs or Treasuries in the basket.

The firms will also publish intraday NAVs for the fund itself as well as the "tracking error" between the proxy portfolio and the NAV. While not expected to attract nearly the level of trading for broad-based index-tracking ETFs, this information is expected to give market makers enough information to price risk accordingly.

The structures approved so far will only allow for the ETFs to hold securities that trade contemporaneously with the ETF itself, yet Greg Friedman, head of ETF management and strategy at Fidelity, said the firm has already begun the process for approval in international equity and fixed income.

Among its initial offerings, T. Rowe Price plans to launch an ETF version of its $76 billion Blue Chip Growth Fund at an initial expense ratio of 0.57%, comparable pricing to its current institutional mutual fund class. Similarly, Fidelity is unwrapping an ETF version of its $30 billion Blue Chip Growth Fund, though pricing has not been disclosed. Natixis Advisors LP plans to launch using the NYSE structure, while Blue Tractor is primarily set up as an intellectual property firm and has licensed its structure to fund administrator Nottingham Co.

Both asset managers and regulators have been tight-lipped on when the market might first experience a new active structure, but it can't come soon enough for large active managers as passive products continue to lead inflows and active funds see major outflows, even in the face of index outperformance in several categories. "We expect ETFs to be additive to our business and bring our capabilities to new investors," said Tim Coyne, head of ETFs for T. Rowe Price.