U.S. Election Could Ripple Through the ETF Industry

The impact of elections is typically overstated when it comes to investing.  

Regardless of who is president or what the balance of power looks like in congress, these are only small pieces of a highly complex financial market puzzle. My go-to piece of advice is always this: Don’t mix politics with portfolios.  

However, elections can shape the regulatory environment surrounding investing, including meaningful implications for the ETF industry. For example, the outcome of the presidential and congressional elections will determine the chairman of the Securities and Exchange Commission, the agency playing a critical role in the pace of ETF innovation. With that in mind, here are three key areas I’m watching. 

Crypto ETFs 

Following the highly successful debut of spot bitcoin ETFs and the SEC’s approval of spot ether ETFs, several issuers are now targeting new crypto products including spot Solana, XRP, and Litecoin ETFs.  

Grayscale is seeking to convert their Digital Large Cap Fund (GDLC)–which holds bitcoin, ether, and the tokens of the Solana, XRP, and Avalanche blockchains–into an ETF. The prevailing assumption is that a Kamala Harris administration would be unlikely to approve these products anytime soon. The simple reason is because the Biden administration, of which Harris played an integral role, has been largely combative towards the crypto industry.  

Spot bitcoin and ether ETFs followed a specific path to gain SEC approval: CME-traded futures contracts first, then futures-based ETFs, and finally spot ETFs. Even then, it took a Grayscale court victory to push these products past the finish line.  

CME-traded futures and futures-based ETFs do not currently exist for other crypto assets and so it is unclear what path additional crypto ETFs would have to pursue. Donald Trump has said that his administration would take a more crypto-friendly approach, which could open new avenues.  

Nobody knows for sure how this all might play out–and the best longer-term solution is the implementation of a bipartisan, comprehensive crypto framework–but it seems highly likely this election will affect the speed of crypto ETF innovation one way or another. 

ETF Share Class Structure 

Over 30 fund companies have filed for exemptive relief from the SEC to offer an ETF share class of existing mutual funds. That includes the world’s largest asset manager, BlackRock, along with firms such as Fidelity, T. Rowe Price, and John Hancock.  

An ETF share class structure would make it significantly easier for these firms to maintain their lucrative 401(k) mutual fund distribution channel while also participating in the fast-growing ETF space. The question is whether the SEC is going to play ball.  

The most common thought across the industry is that a Republican-controlled SEC would be more likely to approve this structure. Once again, nobody knows for sure–and the assumption is this will happen regardless at some point–but the election could determine whether 2025 is the year. If it is, expect the industry to obliterate start and inflow records as nearly every major asset manager will move quickly to bolt ETFs onto their existing mutual funds.  

ETF Taxation 

Several years ago, Senate Finance Committee Chair Ron Wyden submitted draft legislation that included eliminating the in-kind redemption tax-deferral of ETFs. Simply put, this would remove the magic that makes ETFs so tax efficient.  

While this proposed legislation did not advance, it showed that ETF taxation is on the radar of some politicians. An approval of this ETF share class structure could be a catalyst to revisit this topic since asset managers would be using it to wash mutual fund capital gains through the ETF. Furthermore, enterprising issuers are using the ETF wrapper for novel ideas such as Section 351 conversions and box spread strategies, both of which help investors defer taxes.  

The U.S. national debt is now $36 trillion, and congress is under pressure to find tax revenue wherever they can. While the current ETF tax structure is fairer for investors since they pay taxes when they sell, fairness is not always a guiding light for politicians. Depending on the election’s outcome, it is not unreasonable to think some crafty legislators might put the topic of ETF taxation back on the table. 

The intersection of ETFs and politics might not be the first thing you consider with the upcoming election, but the potential industry impact is real. I will be watching.