Dimensional Fund Advisors made its debut today in the ETF space, with two launches and a major action pending. The products that began trading today and their expense ratios are as follows:
Both funds list on the NYSE Arca.
Don’t expect DFAU and DFAI to be the only DFA ETFs for very long, however. The firm just filed with the SEC to convert six of its tax-managed mutual funds into ETFs. That has never been done before, but at least one other firm, Guinness Atkinson, is attempting a similar conversion with one of its mutual funds.
The New Funds
Despite being an active manager, DFA has long been associated with index investing and ETFs because of its low-turnover, broad-based and quantitative management approach. Until now, however, the firm has not yet launched its own funds.
The two new ETFs use similar strategies to the issuer’s existing mutual funds. DFAU invests in U.S. stocks and, in line with DFA’s overarching philosophy, targets securities that have smaller capitalizations, lower relative prices, and exhibit above-average profitability, according to the prospectus. DFAI focuses on the same criteria as DFAU but invests in international stocks.
"The term 'Core Equity Market’ means they have a light tilt to the areas of the market that our research points to as having higher expected returns,” said Marlena Lee, head of investment solutions at Dimensional Fund Advisors.
The “Core Equity Market” mutual funds and ETFs are managed very similarly, but Lee adds that the two structures can diverge in how much they focus on the different premiums.
DFAU’s mutual fund counterparts in the DFA lineup are similarly named funds trading under the tickers DFEOX and DFQTX with expense ratios of 0.17% and 0.20%, respectively. Meanwhile, DFAI’s counterpart, DFIEX, has an expense ratio of 0.28%.
A Mass Conversion
In addition, six DFA funds will be converted into an ETF wrapper and see price cuts, including:
- The Tax-Managed US Equity Portfolio (DTMEX) will become the Dimensional U.S. Equity ETF (DFUS), with its expense ratio lowered from 0.21% to 0.11%.
- The Tax-Managed US Small Cap Equity Portfolio (DFTSX) will become the Dimensional U.S. Small Cap ETF (DFAS) with its expense ratio lowered from 0.43% to 0.33%.
- The Tax-Managed US Targeted Value Portfolio (DTMVX) will become the Dimensional U.S. Targeted Value ETF (DFAT), with its expense ratio lowered from 0.43% to 0.33%.
- The TA US Core Equity 2 Portfolio (DFTCX) will become the Dimensional U.S. Core Equity 2 ETF (DFAC), with its expense ratio lowered from 0.23% to 0.19%.
- The Tax-Managed International Value Portfolio (DTMIX) will become the Dimensional International Value ETF (DFIV), with its expense ratio lowered from 0.50% to 0.35%.
- The TA World ex US Core Equity Portfolio (DFTWX) will become the Dimensional World ex U.S. Core Equity 2 ETF (DFAX), with its expense ratio lowered from 0.30% to 0.25%
“The funds that we are converting are tax-managed funds. So they do have an explicit goal of delivering higher after-tax returns by minimizing tax impact,” Lee said.
“We think that this will benefit the clients in those funds, who are more likely to be tax-sensitive. The conversion will give us one additional tool to manage capital gains and help the funds achieve their goals of minimizing tax impact. But also we intend to structure the conversion to be a tax free event.
"Basically, the investor goes to sleep with mutual fund shares and wakes up with converted ETF shares,” she added.
A Nascent Trend?
The conversions could be the first or among the first of their kind, as Guinness Atkinson has filed for a similar mutual-fund-to-ETF transition.
Given the launch of several nontransparent actively managed ETFs this year, each with different disclosure schedules, even more active managers on the ETF sidelines could step in to do the same.
“Although a small mutual fund/ETF issuer, Guinness Atkinson, was the first to file to go this route earlier this year, the fact that a half a trillion-dollar asset manager like DFA is today proposing to convert $20 billion worth of mutual funds into ETFs is a sign of two important likely trends,” noted John Hyland, a retired ETF executive and longtime investment industry professional, who has written on the topic for ETF.com.
"First, it suggests that almost certainly the SEC will eventually approve the switch and the IRS will agree it is a non-taxable event," he said. "Second, this will be the first major sign of the floodgates opening. I think over the next 12 months we will see a large number of mutual funds follow the same path. It is almost a no-brainer."
He believes that mutual funds must make the conversion to ETFs or face going “the way of buggy whip manufacturers.”
High Demand For DFA ETFs
According to Lee, clients have asked for DFA to launch ETFs, largely because they like the fact that they can trade them without transaction fees on their brokerage platforms.
With regard to the tax issues of the conversion, if DFA had launched brand-new tax-managed ETFs, investors would have had to sell out of the mutual funds to buy the corresponding ETFs, thereby creating a taxable event, she says. That would somewhat defeat the purpose of a tax-managed fund.
Lee adds that the ETF Rule, which passed in September 2019, was another impetus behind the launch as it loosened rules around the use and frequency of custom baskets. A custom basket is an in-kind mix of only certain securities the ETF issuer wants to trade to avoid having to pass on capital gains distributions down the road.
“It will allow us to bring all aspects of our investment approach to the ETF structure,” she said.
Contact Heather Bell at [email protected]