[This interview originally appeared in the April issue of the ETF Report.]
Lee Kranefuss hardly needs an introduction. His entrepreneurial drive sent him looking for institutional-caliber answers to individual investor problems back in the late 1990s while working for Barclays Global Investors (BGI). That quest led to the establishment and the impressive rise of a company—iShares—that delivered those answers thanks to its focus on ETFs.
Kranefuss’ vision gets a lot of credit for popularizing exchange-traded funds, truly transforming them from insurgents into mainstream investment vehicles.
He eventually left iShares after the company was acquired by BlackRock, but today, Kranefuss continues to ply the trade at Warburg Pincus, and at Source—an independent ETF issuer—where he is leading the charge on next-generation product development.
Were you surprised when you got the call telling you of your lifetime achievement award?
Yes. It's not the kind of thing you expect. It’s a very nice thing, but to get a lifetime achievement award, you're hoping you've got more to do yet. It feels premature in a way.
When did you first get involved with ETFs?
In 1999, I was working in strategy and business development at BGI. I had run a lengthy planning exercise for the CEO, and being a very quantitative money manager, I said, “If you think about where we're headed, we've really got a heavy presence in one corner of the market, and we’re making progress in every direction except the pension part.”
We were purely institutional. And my boss at the time—Patty Dunn, who's no longer with us—used to say, “One day the sun is going to set on the defined benefit business,” which was our mainstay. We started thinking of ways to expand and get to more investors with the tremendous benefits that we knew were taken up by the institutional market in droves, but the individual market was dragging far behind.
Coincidentally, while I was working on this, we received a call from someone wanting to talk about a Barclays SPDR, “whatever a SPDR is.” I heard them, and knew that would be something we might be able to promote and distribute to individual investors. It was a match made in heaven of a large institutional money manager that had what were largely illiquid portfolios for large institutions, and a vehicle that allowed you to—in substance—put a liquid window in small chunks onto that fund, so you didn't have to have all of the infrastructure for a traditional mutual fund company. It worked out from there.
What do you see as your biggest accomplishment in the ETF industry? What are you most proud of?
I think, first and foremost, it's having been able to light the fire. I wasn't the only who did it, but I’m proud of having been able to light some of the fire under a movement for individuals to adopt a more institutional-style investment strategy.
You go back to 1999, and at the time at BGI, we managed something like $2 trillion by then of index funds for institutions. That's one provider. The entire indexing universe for individuals was, I believe, about or under $100 billion, and of which one provider—Vanguard, to its credit—was 75% of the market, by our estimates.
Today ETFs have over $2 trillion globally. The shifts have taken place. You realize how they've become the choice vehicle for delivering high-quality, low-cost portfolio solutions to individuals who didn't really have that many ways of accessing that before.
You made a name at the helm of iShares. Do you ever look back and wish Barclays had not sold iShares to BlackRock?
Well, I very much was involved and wished that iShares had been taken out as a separate company. That was, in fact, the original design of the transaction. I had worked to get iShares spun out, and Barclays had agreed that that was a good idea.
In my experience, you get much more mileage, can move much quicker, and serve more customers if an ETF provider can be independent; if it's not fighting for resources or, in many companies, not being stymied by other “Please don't trounce on my traditional active funds where we earn much more money.”
So, yes, I wish iShares had been out there. That's one of the things that's very rewarding, one of the reasons why I'm working with Warburg Pincus and why we bought Source. Source is one of the few truly independent, open-architecture ETF providers in the world.
Is issuer independence key for the future of this industry?
I think it is. And you see that in droves in Europe. There’re two issues here: One is the internal conflicts. ETFs are still the kind of thing that challenge many traditional money managers—they’re still somewhat disruptive and potentially threatening. And it's always hard to effectively run a business inside a company where other parts of the company feel threatened or challenged by what you're doing.
The other issue is just being able to go out and find investment content that you can put into ETF format. Often, we see companies say “We've got a lot of hammers, and so every solution we provide is going to look like a hammer. The problems better look like nails.” In many companies, the tendency is to try and package up what they've got already, rather than think about where the best ideas are coming from.
Who has influenced you the greatest in the ETF industry?
Unfortunately he's no longer with us—Nate Most. Nate was on the board of WEBS when we started looking into it. I met Nate when he was 88, I think; he was 75 when he started the SPDR filing. He was head of product development at the American Stock Exchange. It was unbelievable. He spent five years getting it through there. And he was in his early 90s, and he still had the energy and insight; quite clever.
I've done well bringing ETFs to people and commercializing them, but Nate figured out how to make it work. I remember meeting Nate, and for five days in a row, he'd explain to me how something worked. I'd come back the next day and say, "Well, what about this?" He would say, "Well, here's what would happen if that trading problem developed." And then I didn't ask him any questions. He said, "What? No more questions?" I said, "I can't think of any more. I thought of it all." He said, "They've been trading for seven years. I spent five years building it. If there's something grossly wrong, you would have seen a blowup already."
Among the people in the industry, Nate was clearly the guy who really put a lot of brainwork into this so that everyone else could benefit from it.
Does anything still surprise you when it comes to ETFs?
What still surprises me often is the degree to which people feel like things never change or won't change, when in fact they have changed. When you look at an ETF, there's really no reason to buy a traditional mutual fund—unless you're a completely illiquid investor, you're a big institution, you're going to put the money away for 20 years in a separate account and let it sit there.
There are commercial impediments because you might have a big fee, given the way brokerage commissions work at some places. But the ETF gives you usually better tax treatment. You can trade at any time. You can move around; you could buy from one broker and sell from another. You have complete portability. You have complete and precise control. Being an engineer, we used to call it asynchronous; you can push the button any time you want on a $10 basket with 3,000 securities in it and have it execute in the next 10 seconds.
And then you think back to a traditional fund. There's all this infrastructure and cost and complexity.
Is there anything you wish you had done differently? Any tough lessons you learned along the way?
I'd say the only thing I wish I'd done a bit differently—and it's not a big regret, mind you—was to have started some of the work on new product ideas a bit earlier. They have a very long lead time. The process of sorting through new ideas in investing is a bit lengthy.
The one other thing I wish I'd done earlier is write a book. I've been working on getting to the end of a draft on a book about investing. BGI was a very interesting place to work when I was there because of its particular way of thinking about investing. It was a very disciplined, quantitative, structured approach. There's so much people still don't understand, even at the most basic levels, about how money management works. I've tried to boil down some of that wisdom from those years into a book. It takes years to absorb it, but it doesn't take years to explain it.