The Heartbeat Of ETF Tax Efficiency

January 03, 2018

The common thread was high-turnover portfolios, mostly in smart beta products, but also those with equal-weighting and active management, even vanilla funds benefit sometimes. Indeed, it looks like Vanguard Total Stock Market (VTI) experienced a large, quick inflow and outflow in the third week of March and June 2017, on dates that match its underlying index’s rebalancing window

VTI rebalanced approximately 1.2% of its portfolio in June 2017 (weight based on a comparison of FactSet’s daily ETF holdings data for May 31 and June 30, 2017). VTI had an abnormally large inflow of 10.2 million shares on June 13, coupled with an outflow of 10.4 million shares on June 19.  Those 10.2 million shares are about 1.6% of VTI’s ETF shares outstanding, though VTI’s portfolio is mostly held in mutual fund format (about 7/8 of VTI’s portfolio by dollar value was held via mutual fund share classes as of October 31). 

Here are what VTI’s flows looked like YTD as of December 12:



For a larger view, please click on the image above.


If VTI—one of the lowest-turnover ETFs in the entire US ETF landscape—takes advantage of well-timed inflows and outflows, it’s a clear sign that virtually any ETF would benefit from this practice.

Of course, some funds have tremendous turnover in shares outstanding, because of active trading that leads to daily creations and redemptions. The Technology Select Sector SPDR Fund (XLK) is a great example, with 100 days of net redemptions year-to-date through December 6. Low portfolio turnover coupled with consistent redemption activity allows many opportunities for washing out low-basis positions.


Here’s what this looks like in XLK through December 11:



For a larger view, please click on the image above.


Bottom line, if you are looking for effective tax management in an ETF, look at the flows chart.  If you see oscillations, like in XLK, or if the chart looks like an EKG, your funds are likely in good shape, thanks to the behind-the scenes heartbeat of well-timed creations and redemptions. 

At the time of writing, the author held no positions in the securities mentioned. Elisabeth Kashner is director of ETF research and analytics for FactSet.

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