Investors Shoulder ETFMG's Legal Costs

January 31, 2018

On Jan. 26, ETF Managers Group (ETFMG) revised the prospectus for five of its funds, raising their total annual fund operating expenses from 0.03% to 0.07% apiece, as a result of the company's ongoing legal woes. The changes went into effect Jan. 31.

The listed management fee for the funds won't change, but the new filing discloses additional "operating expenses" associated with five ETFs: the ETFMG Prime Cyber Security ETF (HACK), the ETFMG Prime Mobile Payments ETF (IPAY), the ETFMG Drone Economy Strategy ETF (IFLY), the ETFMG Prime Junior Silver ETF (SILJ) and the ETFMG Video Game Tech ETF (GAMR).

Fees for the other ETFMG-branded ETFs, as well as the company's white label funds, are not affected by the filing.

The cost increases, which come with a footnote stating they reflect "extraordinary legal expenses incurred in connection with" lawsuits filed by PureShares and Nasdaq, are as follows:

  • IPAY: an increase from 0.75% to 0.80%
  • HACK: an increase from 0.60% to 0.64%
  • SILJ: an increase from 0.69% to 0.72%
  • IFLY: an increase from 0.75% to 0.79%
  • GAMR: an increase from 0.75% to 0.82%

Lawsuits Explicitly Mentioned

The five impacted ETFs once fell under the PureFunds brand, but ETFMG rebranded them in May 2017. This action, among others, sparked a lawsuit from PureShares (which does business as PureFunds).

Then in August 2017, ETFMG changed the index provider for several of the former PureFunds ETFs from the International Stock Exchange (ISE) to Prime Indexes. This instigated another, separate, lawsuit from Nasdaq, which had bought ISE in 2016.

ETFMG's newly revised prospectus inserts a "Litigation" section that explicitly notes the current status of these two lawsuits: PureShares LLC, d/b/a PureFunds et al v. ETF Managers Group LLC et al; and Nasdaq, Inc vs. Exchange Traded Managers Group, LLC et al.

This is the first time either suit has been mentioned by name in ETFMG's investor materials. However, investors’ risk as a result of this litigation is still not listed in the “Additional Risk Information” section or the “Fund Summaries” for any of the five funds.

Fees Begat ETFMG's Legal Woes

Ironically, ETFMG's current legal saga all started with a dispute over fund fees.

In March 2017, ETFMG's Board of Trustees voted to reduce HACK's expense ratio fee from 0.75% to 0.60% so as to make it more competitive with the First Trust NASDAQ Cybersecurity ETF (CIBR), which charged (and still charges) a 0.60% fee.

Complicating matters, however, was the fact that Nasdaq, which had purchased HACK's index provider in 2016, also provides the index for CIBR. Nasdaq protested the fee change, arguing that HACK and CIBR were not "substantially similar" funds and thus the slashed fee was unnecessary. ("Substantially similar" is something of a nebulous descriptor, given that, as of Jan. 30, all but four of CIBR's 35 holdings also appear in HACK's portfolio, though in differing weights.)

In May 2017, ETFMG went ahead with the fee change anyway, terminating its agreement with PureShares and rebranding HACK and the other PureFunds ETFs under its own name. Shortly thereafter, PureShares sued ETFMG for breach of contract, wrongful termination, defamation and emotional distress.

PureShares Suit Dismissed, For Now

That suit was dismissed without prejudice on Jan. 19, when PureShares failed to provide requested documentation to the court for discovery. ETFMG founder and CEO Sam Masucci released a statement that day saying that he was "extremely pleased" with the court's decision.

However, in an interview with ETF.com, PureShares CEO Andrew Chanin, who was ordered to pay Masucci's legal fees, described the motion as "procedural," adding, "Nothing merits-based has been decided at all."

PureShares still plans to submit the requested documents and revive the litigation, he says.

 

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