By Robert Goldsborough
Even as the exchange-traded fund industry has matured, many large traditional fund managers have remained on the outside looking in. The core cadre of ETF providers has changed little over the past few years, and much of the activity from the more traditional fund managers has involved their applications to issue actively managed ETFs. For the most part, brand-new issuers whose first ETFs have started trading have been small fries. And many traditional managers have applications pending to issue actively managed ETFs. Whether players such as Dreyfus, John Hancock, Neuberger Berman, T. Rowe Price, Principal, and Eaton Vance, for example, ever actually start issuing actively managed ETFs might be an open question, but all (along with many others) have placed serious proposals to do so before the SEC.
Recently, however, we have seen the emergence of traditional fund managers entering the ETF industry through partnerships. In early January, State Street rolled out three actively managed style-based equity ETFs in partnership with Massachusetts Financial Services: SPDR MFS Systematic Core Equity ETF (SYE), SPDR MFS Systematic Growth Equity ETF (SYG), and SPDR MFS Systematic Value Equity ETF (SYV). The three funds are subadvised by MFS and use a bottom-up approach to selecting stocks, based on both fundamental and quantitative analysis. Meanwhile, Emerging Global Advisors in early January launched three passively managed emerging-markets bond ETFs subadvised by TCW: EGShares EM Bond Investment Grade Intermediate Term ETF (IEMF), EGShares EM Bond Investment Grade Long Term ETF (LEMF), and EGShares EM Bond Investment Grade Short Term ETF (SEMF). While it's true that the three bond funds--which are Emerging Global's first--track J.P. Morgan indexes, the ETFs also follow sampling strategies, and TCW employs quantitative analysis to pick securities from the funds' respective indexes.
The State Street-MFS and Emerging Global-TCW pairings come just a few short months after the industry's most high-profile pairing: the partnership between Fidelity and BlackRock that led in part to the October 2013 rollout of 10 passively managed, U.S. equity sector ETFs that track MSCI indexes and are subadvised by BlackRock. That rollout was just one piece of an elaborate ETF partnership between the two firms that included boosting the suite of iShares ETFs available through Fidelity's brokerage platform and Fidelity broadening access to the iShares lineup to new audiences.
So what's going on here? Clearly, two major mutual fund firms--MFS and TCW--have decided that--for now, at least--the prospect of partnerships with established ETF providers is the best route to take. And they've made these decisions on the heels of Fidelity (which in fairness already has had one passively managed ETF trading for the past decade) deciding to join forces with the biggest ETF issuer in BlackRock, rather than going it alone in a major way in the passive space.
Colleagues of mine are quick to note that when evaluating any ETF, I zero in on the fund's cost almost immediately. High-cost funds more often than not discourage me and send me elsewhere. And while partnerships strike us as solid ways to develop strong products, I'd hasten to add that the presence of an added party in the management of an ETF has the potential to significantly increase the fund's costs.
So what do we know about the three most recently established partnerships? The Fidelity-BlackRock pairing looks promising. Fidelity has brought to market its 10 sector ETFs (which have slowly but steadily been attracting assets) with the lowest expense ratios of any equity sector ETFs, undercutting by a hair the next-lowest provider, Vanguard, which offers many of its equity sector funds for 0.14%, and also State Street, which recently reduced the fees for all of its sector SPDR ETFs from 0.18% to 0.16%. So the Fidelity-BlackRock partnership's costs are low for investors, and I would predict that the funds will continue to amass assets as they are marketed heavily and distributed extensively by Fidelity's marketing/distribution machine. Meanwhile, the State Street-MFS funds all carry what we would consider to be reasonable 0.60% price tags for actively managed strategies that combine fundamental and quantitative analysis. Finally, the Emerging Global-TCW emerging-markets bond ETFs all charge 0.65%, which is meaningfully more than the price tags of other emerging-markets debt ETFs.
Whether or not these new ETF forays of MFS and TCW broaden into something more--including potentially issuing their own actively managed ETFs down the line--we would not be surprised to see more "marriages" between traditional fund managers and ETF issuers in the future. Such pairings can play to the respective firms' strengths and can help get investment ideas to market faster. Clearly, many traditional fund managers have moved gingerly toward the active ETF space (if at all), and developing a partnership can be a way for both sides to--in a low-cost way--test out an idea and become more comfortable with the ETF space. That said, cost is paramount, and if such a partnership adds a layer of cost to a product, that likely would lead us to question the idea's overall value proposition of the idea and quite possibly to direct investors to a lower-cost alternative.
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