Ben Fulton is one of the pioneers in the ETF industry. He began his ETF career in 1997, and is best known for his nine years at PowerShares, with the last four being global head of ETFs for Invesco. Ben later headed up the ProShares Tactical ETF business for several years. He stays active in ETFs by splitting time between working as managing director of AXS Investments, where he helps identify ETF- and index-related investment businesses to grow, sell or buy, and as CEO of Elkhorn Consulting, where he provides business consulting for firms looking to work with ETF sponsors as an index provider, vendor or media provider.
After a weekend of celebrating the U.S.’ freedom, I’ve been thinking about a Bloomberg Intelligence article I read last week. Written by my industry friend Eric Balchunas, senior ETF analyst at Bloomberg, “State Street’s ETF Potential With Invesco” explores the idea of these companies joining forces to create a new superpower ETF company.
Great read, but I am going to take my own spin at this concept.
Leading The Intelligent ETF Revolution
I enjoyed nearly a decade of being in senior leadership of the initially tiny ETF upstart called PowerShares (some call it Invesco, but not me; the real key to that firm has always been about Leading the ETF Revolution!).
So, in my hypothetical ETF merger scenario, Invesco would buy State Street’s ETF business, not the whole company in such a merger. It only makes sense, much like the U.S. acquiring the Louisiana Purchase in 1803 from the previous superpower of France, or the ETF equivalent of State Street.
Back in the day, PowerShares had a no-holds barred culture of winning. Bruce Bond created a company that was both fearless and willing to go where no person had ever gone before. In the early days of PowerShares, we were mocked for focusing on the retail advisor instead of institutions. This was where State Street and BGI (now iShares) focused instead.
Key ETF Acquisition
State Street had its initial success by acquiring from the American Stock Exchange their PDR ETF sponsorship.
The assets were the SPDR S&P 500 ETF Trust (SPY), SPDR S&P Midcap 400 ETF Trust (MDY) and SPDR Dow Jones Industrial Average ETF Trust (DIA), and in time they added in Sector SPDRS and the SPDR Gold Trust (GLD).
Similarly, PowerShares bought QQQ from the Nasdaq. Most of these ETFs used a now-antiquated structure known as a listed unit investment trust (UIT) as the investment infrastructure. It was a great structure for an exchange to use to increase trading in their shares—both the ETF and its underlying—but a lousy structure to be profitable for the sponsor.
PowerShares purchased the Invesco QQQ Trust (QQQ) to both bolster our AUM and to have the branding budget that was incorporated in the expenses of the listed UIT. Today I would guess that the marketing budget for QQQ alone, dictated by the fund’s structure, would be well over $30 million annually.
I can only imagine the amount of marketing dollars with SPY, MDY and DIA, the other large listed UITs that would theoretically be merged. That would be in excess of $100 million in annual marketing dollars.
Future Industry Consolidation
The ETF world is reaching an interesting point of maturity.
We now have more than 150 ETF issuers, with approximately 30 of those being very profitable and able to focus on long-term planning.
My thoughts have been that the other 120 sponsors would be the fuel to the pending ETF Meger Mania, but perhaps it begins first by some of the leaders combining forces? (See: ETF.com Issuer League Table)
The goal for the Big 10 ETF Firms (I grew up in Ohio, so you always start and end with the Big 10) is to be able to steal market share from either BlackRock or Vanguard. This proves to be difficult, unless you have one of these three virtues:
- Truly novel products (ProShares and ARK)
- Proprietary distribution (Schwab and J.P. Morgan)
- Deep advisor relationships (First Trust). One could argue low-cost products, but that title belongs only with one of the leaders, Vanguard. Other firms would not venture in that direction, unless they do not care about profitability or providing the necessary support that nonbeta products require.
Issuers Need To Adapt Or Die
I still believe the smaller 120 firms will need to find partners to provide distribution, infrastructure or capital. These are not the reasons that an ETF merger of Invesco and SSGA would make sense though.
Combining these two firms would elevate what I call the “SuperPowerShares” to compete with the Big 2 in product, distribution, global presence and exposure to the unreached ETF people of the world—“ETF Missionaries” we could call them.
One of the original concepts that ETF inventors had was that they could be marketed globally due to being traded on an exchange. Perhaps this could now be fulfilled, with BlackRock and SuperPowerShares battling it out globally.
Complement Rather Than Compete
Invesco and SSGA have a very complementary product line, with many of the top traded single tickers in the ETF realm—SPY, QQQ, GLD, Sector SPDRs, MDY and DIA, to name a few, and a very impressive lineup of smart beta, fixed income and commodities.
The merged company would have the broadest global ETF product lineup. Distribution would be vastly improved, and you could argue that only BlackRock and SuperPowerShares would be the only Big Box retailer of ETFs. One-stop shopping here means you do not want beta; there’s plenty of smart beta ETFs to choose from.
Also, the combination would boast partnerships with Research Affiliates, Dorsey Wright, S&P Factor Family and BulletShares, which would in turn enhance the behemoth Big Beta ETFs such as SPY, MDY, DIA and Sector SPDRs—and do not forget QQQ.
With the continued explosive growth in ETF industry assets, firms will need as many buckets as possible and in every location known, to maximize the amount of rain or money caught. This would do the trick.
Invesco’s Culture Of Buying Growth
Finally—and probably well understood—is that Invesco loves to buy instead of build distribution to fuel AUM growth. Oppenheimer, Guggenheim ETFs, Van Kampen and PowerShares are examples of the buying-over-building approach.
Invesco’s stock price has increased from the high single digits to near $30 a share in the past two years. So its currency, shares of the company (IVZ), is worth three times the amount it was two years ago.
That’s certainly better than holding cash. I would argue that their market cap is still low when you consider the product line they have, and if you add SSGA ETFs, I think the valuation would be like BlackRock’s.
The P/E ratio for Invesco is currently close to 17, whereas BlackRock enjoys a P/E of over 25—nearly 50% higher! This should make this affordable, and I think the street would love the merger. I personally wish I still held my IVZ stock if this is the case.
The icing on the cake may be that State Street could focus on what it does well, and the ETF team of SSGA would be freed up to grow with Invesco—a win-win-win for all involved.
Ben Fulton can be reached at [email protected]