Live Chat: Why Do ETFs & ETNs Close?

September 13, 2018

[Editor's Note: Live Chat! with Managing Director Dave Nadig happens weekly at 3:00 p.m. ET.]


Dave Nadig: Good afternoon and welcome to Live!
As always, you can enter your questions in the box below. I’ll get to as many as I can in the next 30 minutes or so.
After we’re done, well post a transcript at this same address, in case you missed anything.
With that, let's get rollin'.


D. Cartwright: Hi Dave, So what are the chances another spectacular blowout like the recession of 2008 will happen again?
Dave Nadig: OK, we'll start with a non-ETF question, but I have an ETF thought as well.
I don't personally see the same kind of blowout we saw in 2008, mostly because I don't think we have the kind of structural flaws we had going on back then.
There's no question we have a very long-tooth bull market, and markets don't go up forever. A correction will happen before I retire in 15 years, no question.
But I don't see an immediate, violent catalyst right now.
Of course, one could appear -- geopolitically, in particular.
The unasked question here is, "What would it mean for ETFs?" which I get pretty much every week at events.
And my pat answer is: the same thing that always happens. A lot of people in active funds pull their money out because of either underperformance, or because they were sitting on gains before, and now aren't.
When that money comes back, it follows the flows pattern we've seen for 15 years -- into low-cost beta, not back into active.


Gina Putnam: Are all ETNs as risky as the ones from Lehman that failed?
Dave Nadig: So, great article today by Lara Crigger highlighting the demise of the Lehman ETNs.
The short answer is: there's always default risk with any piece of debt. I don't see any of the existing issuers right now that have anything like the warning signs we saw on Lehman.
But a trick you can do is to look at the issuer of your ETN and then check what the CDS market thinks about insuring that bank's debt.
If it's 5% a year or something outrageous, be worried. If I recall, Lehman spiked over 10. Can't fully remember.
The other ETN issue is that sometimes the issuing banks get cold feet and close them for new issuance.
That happened just last week with MORL. In those cases, the ETNs become essentially broken, and often trade to a premium.
(Which is likely a good opportunity to sell and move on. )


Dahlia Fenton: Is the only reason ETFs close because they haven't accumulated "enough" in AUM over a certain period of time?
Dave Nadig: That's for sure the biggest reason. For years we kept a list of closed ETFs and not one had over $20 million in assets when they shuttered.
Then BlackRock bought iShares and they closed. If I recall, one or two funds that had $40-50mm in assets that were sort of edge-case total return products.
But small + illiquid is a good formula for predicting a closure.
Of course, some firms basically never close ETFs, and if they're part of a complex (say, a suite of sector funds), they'll often let a small one linger forever.
I think SSgA may have closed a big fund in the last few years too. Usually it's a "poor-fit" thing in those kinds of cases. Not part of the bigger strategy.

[Editor's Note: In August 2016, State Street shut down the SPDR Nuveen Barclays California Municipal Bond ETF (CXA), which had nearly $150 million in assets.] 


Drake T.: Was there any backlash/pullback from investors when ETFMG changed LARE to a pot fund (MJ)? Does it state in prospectuses that issuers can do this? Do you see this as common going forward?
Dave Nadig: Man, what a story that was. As Drake says, the board of the fund just voted to completely change the fund entirely.
Here's a link to when it happened, great story:
There's a great quote in there from the largest shareholder at the time, let me paste it in:
"'I think it's a little scummy what they're doing,' said Peter DeCaprio, portfolio manager and principal at Crow Point Partners, in Hingham, Massachusetts. Crow Point is the largest investor in LARE, owning a 22% stake, according to most recent 13-F filings.
'But as long as they have support at the board level, if they want to change up the strategy, then they can,' he added."
I mean, that pretty much sums it up in its entirety. Ultimately, shareholders outsource all of these decisions to their fund boards.
Was there backlash? Well, it's hard to cry too many rivers for ETFMG -- just look at the asset flows into MJ, the resulting fund.
Certainly they would never have seen those assets in LARE.
But people in the industry definitely took notice. It's the only example I've ever seen of something like this in 25 years. Sure, change an index from Vanilla to French Vanilla, but this was from PIstachio to, well, Weed.


no one: Can you buy an ETF that gives me stock/bond exposure, one-stop shop? Are there ones with different stock/bond exposures ... buy and hold question?
Dave Nadig: Great question. There are very few notable asset allocation funds that do this.
iShares has a small series of "target risk" funds. AOR in particular has good assets in it.
They're essentially just fund-of-funds that own a balanced portfolio.
These kinds of products (particularly target-date) are very popular in traditional retirement accounts, but haven't caught on in the same way with ETFs.
The next issue of ETF Report, shipping in a few weeks, has a lot of coverage on these kinds of issues.


John: Hi Dave. What's the best way to evaluate an index provider? We've all heard the names MSCI, FTSE, but there are a lot of other ones too. How do I know which one is best at what they do? I mean this in the context of choosing an ETF.
Dave Nadig: (cracks knuckles)
Back when we were building the ETF analytics for the fund pages, we did a LOT of index research.
You can get deep into the weeds (and the CFA has a whole curriculum around it), but in short, mostly what you're looking for is a clean, transparent set of methodologies that work well together.
Institutions in particular often want to know that the way stocks are selected for, say, their emerging market exposure, is consistent with how they evaluate things in developed markets, and so on.
This becomes even more important when you combine products.
You can't just slap the Russell 2000 onto the bottom of your S&P 500 exposure and think, "hey, I've got total market!"
As for "best," that's a loaded question.
Each firm has a unique way of looking at the world. For basic beta exposures, FTSE, MSCI and S&P all have sound methodologies.
They each have "headline indices" that they're known for.
I think the internal consistency issue is more important than the subtle differences -- mixing and matching can get you weird gaps or doubling-ups.
I'd pick one and stick to it, inside an asset class.


MJ Holder: I thought US Bank was the issuer of the MJ marijuana ETF
Dave Nadig: Ah, and here we have one of the big issues with funds in general (not just ETFs).
SHAREHOLDERS actually own all mutual funds and ETFs, and the board (which you elect!) decides who does what.
The BRAND of MJ is clearly ETFMG.
The actual trust is (If I'm remembering) administered or custodied by US Bank.
It can get very tricky deciding who "owns" a given fund. In general, following the revenue trail is what gets you closest to some sort of truth.
in this case, the money flows mainly through the advisor contract, and the advisor in this case is ETFMG, for sure.


Anonymous: Could any ETF (new or existing) ever eclipse SPY in AUM? Perhaps because it might have a lower ER?
Dave Nadig: So, oddly enough, SPY has about the same assets as the other two big S&P 500 ETFs put together (IVV and VOO).
Both of which are 5 basis points cheaper.
And the flows have really been disproportionately into the two upstarts, for the past few years, not into SPY.
So its really just a matter of time. SPY is not the asset-gathering machine it once was.
If I had to pick what fund would knock it off, it would actually be VTI: Vanguard's "just buy everything" ETF.
It's about $100B right now, and over time, it's just going to keep accumulating. I mean, you're buying the whole US for 4 basis points.
VT, I believe, is the international version.


BNDW: What are your thoughts on Vanguard's latest ETF-of-ETFs, BNDW? Would this be a good one-stop shop for a bond allocation, or is it too overly weighted in BNDX? Most portfolios seem to have a larger allocation to U.S. fixed income rather than international.
Dave Nadig: I love this fund. Most investors' bond allocations are too US-centric (just like their equity exposures), and inside the U.S., too focused on Treasuries.
I think BNDW is a fantastic one-stop shop for bond exposure, and it's what, 10 bps? 9 maybe? It's so cheap.
So I don't really see any downsides to using it as a one-stop shop.
Sure, it's got some exposure outside the U.S., but it's hedged from big currency moves, which dampens the vol.


Neil P.: If you could see any one regulatory requirement imposed on the ETF industry, OR any one regulatory requirement lifted, what would it be?
Dave Nadig: I'll not punt and say the SEC's new ETF Rule, because that used to be my answer, but with that in place:
I continue to think ETFs should be gated based on their holdings/construction. What I mean by that is, if I can't buy futures in my brokerage account, I shouldn't be able to buy an ETF that just holds a futures contract.
Similarly, if I am not approved for margin, I shouldn't be able to buy a leveraged product.
That would require, most likely, some hard rules from FINRA.
But that would be my one thing: clean up the regulatory framework around that.


L&L: Just saw Fidelity is adding more zero-fee MFs. 1) Will zero fees bring the mutual fund back? 2) Who will be the first ETF issuer to launch a zero-fee ETF?
Dave Nadig: Zero fee is about acquiring accounts for Fidelity more than anything. That's tough to do with an ETF, since anyone with a brokerage account can buy it.
I don't think you'll be able to buy those zero-fee funds from Fido at Schwab anytime soon.
So who could do it in ETFs? Someone with broad offerings that can make money elsewhere. Again: Schwab seems like the most logical company to do it. They already do something similar with their robo platform.
Sorry I skipped over a few, I'll close with a fun one though:


Anonymous: What podcasts do you listen to?
Dave Nadig: Serious ones: Masters in Business, Pod Save America, Invest Like The Best
Meb Faber's podcast
ETF Prime (hey, gotta make a plug)
Fun ones: Song Exploder, Stuff You Should Know, My Brother My Brother & Me.
You can find ours here by the way:
This one is called: 10 Years Later, What's Next For Stocks?


OK, that’s going to do it for today. We’ll have a transcript up shortly. Next two weeks we may try a few different dates/times for Live Chat, so check the site, or you can follow me at @DaveNadig and I’ll post when we open for questions. Thanks everyone, we’ll see you next time!

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