F/m Investments Courts 401(k) Investors with Novel ETF Structure

F/m Investments filed to create a mutual fund share class of its 10 single-Treasury ETFs this Tuesday to better access the more than $6 trillion 401(k) market.  

In last week’s SEC filing, the Washington, D.C. asset manager and wealth advisor aims to reverse Vanguard’s formula, which created exchange-traded fund share classes of existing mutual funds. F/m says it is seeking to allow investors access to ETF strategies through their 401(k) accounts, because 401(k) investors can’t easily invest in ETFs directly. 

401(k)s are designed around traditional mutual funds, and technical constraints stop firms from easily adding ETFs to the list of investment options available to the accounts, said F/m Investments Chief Investment Officer Alexander Morris in an interview. While a mutual fund share class would allow investors to access ETFs through their 401(k), Morris said the SEC has been hesitant to grant another regulatory exemption like it did with Vanguard. 

Still, Aisha Hunt, principal at Kelley Hunt & Charles, a law firm working with F/m, said the filing addresses the SEC’s potential objections. 

“Not only would the regulatory relief request give ETFs access to the $6 trillion in 401(k)s, but the nature of the single-Treasury ETFs uniquely addresses the SEC’s concerns,” said Hunt. 

How Treasury ETFs May Be Different 

According to Hunt, two of the Securities and Exchange Commission’s main objections to a fund with mutual fund and ETF share classes are potential conflicts of interest from issuers and the potential that mutual fund share class holders would be unfairly subsidized by ETF share class holders. 

Conflicts of interest could arise when the mutual fund and ETF share classes of the fund have different expense ratios, because the issuer would be incentivized to prod investors into the share class with higher fees. This doesn’t apply to F/m’s funds, because all 10 proposed mutual fund share classes would have the same expense ratio as the existing ETFs. 

Because mutual funds need to keep cash on hand to handle redemptions, this can reduce their returns compared to similar ETFs, since the cash isn’t being invested. Having to sell assets to get cash for investors' redemptions also incurs trading costs. Because the fund’s returns are dragged down by these extra costs, the ETF share class holders would essentially be subsidizing the mutual fund shareholders. 

Hunt and Morris say this would not be an issue, because the assets held in these funds are Treasuries that can be converted into cash quickly and at virtually no cost. Due to the high liquidity of the Treasury markets, the fund would have to hold far less uninvested cash and incur much lower trading costs than if it were a stock or corporate bond fund. While Hunt would not put a number to it, she said the costs would be negligible.  

While Hunt said she thinks the filing has a good chance of being approved, even if it is, it likely won’t be soon. Between comments, revisions and the time, it would take to launch the share class, it will likely take a minimum of six or seven months to get approval, plus another three or four months to launch the new share classes. Hunt also said that is the most optimistic time frame and it could likely take longer. 

 
Contact Gabe Alpert at [email protected]