White Label Firms Seeing Interest in Mutual Fund Conversions

On an episode of Bloomberg’s Trillions podcast in late December, the heads of three key white label firms told Senior ETF Analyst Eric Balchunas they were seeing significant interest from mutual fund issuers who wanted to convert at least some of their mutual funds into exchange-traded funds.  

Balchunas said on that podcast he believed converted ETFs could represent $1 trillion in assets within a decade, and has since commented that he might have been too conservative in his estimate.

There’s been a lot of buzz about various trends in the ETF industry, and it’s not uncommon for those hyped concepts to fizzle. For example, to many observers of the ETF markets, nontransparent actively managed ETFs seemed like the holy grail of ETFs, but with a few exceptions, those funds have been slow to gather assets since their debut at the end of the first quarter of 2020.  

But it seems that the mutual-fund-to-ETF conversions trend, with nearly $65 billion invested in aggregate in converted ETFs, has much steadier legs.  

So far, the majority of assets in mutual-fund-to-ETF-conversions are with firms like J.P. Morgan and Dimensional Fund Advisors. But the first such conversions were a pair of mutual funds turned into ETFs by Guinness Atkinson, which is not exactly a giant in the asset management business.  

Dimensional, however, rolled out its converted funds shortly after the smaller firm paved the way. And there have been a host of conversions from smaller firms like Motley Fool, Innovative Portfolios, Adaptive ETFs and Harbor Capital.  

When to Use a White Label Issuer 

But not every firm wants to build their own ETF department to run those converted funds, not least because it takes a lot of time, money and expertise.  

A fairly simple solution to that problem is to hire a white label issuer and rely on its infrastructure, contacts and knowledge. For a firm that—rather than launching an ETF as its entree into the space—is looking to convert an existing mutual fund into an ETF as a way of getting their foot in the door, a white label issuer may make even more sense. 

Michael Venuto, chief investment officer of white label issuer Tidal Financial Group, says that a firm looking to launch a small number of ETFs would likely be better off using a white label issuer. He observes that the mutual funds being converted into ETFs tend to be no-load funds that are not held directly by a retail audience or sold on wire house platforms.  

Venuto also noted that a mutual fund approved to trade on a wire house platform will not necessarily have that approval after converting to an ETF wrapper, so the motivation to convert those mutual funds is low.  

“We’re seeing it today, with people coming to us that say, ‘I have a $300 million mutual fund that used to be $1 billion, and I can no longer sell it because nobody’s buying it,’” he commented, adding that many platforms like SoFi or Robinhood aren’t even set up to sell mutual funds. “They don’t have the pipes [meaning infrastructure].”  

Patrick Cleary, CEO of ETF Architect, Alpha Architect’s white label arm, notes that another problem with the mutual fund wrapper is that they are not being used in model portfolios, which cuts off a lane of distribution. Funds investing in equities and likely to be the target for a model portfolio construct are the leading candidates, he said.  

“The mutual fund managers that we're talking to have realized that this semi truck of reality is headed down the highway and that they have to figure out how to deal with it,” Cleary said. 

“We are talking primarily to large multibillion-dollar complexes that at a strategic level are saying, ‘we need to do something different,’” he added, referring to ETF Architect’s interactions with mutual fund issuers looking to convert some of their funds. Cleary noted that such issuers have a staff built for a totally different vehicle.  

His language implies that things are happening fast, and that means a mutual fund issuer looking to avoid being run over by the ETF train doesn’t necessarily have the luxury of time to set up its own in-house operations. 

Fiduciary Responsibility 

For investors, the truth is often that the ETF wrapper is just better for them, even if the product already exists in a mutual fund wrapper.  

“I can guarantee that a high-turnover strategy is going to be better for a taxable investor in an ETF than it is going to be in a mutual fund,” Venuto said, adding that the structure itself creates alpha.“

It’s going to be the independents that have $100 million to $3 billion and want a better vehicle for their end client,” he explained of the firms that are likely to convert their mutual funds, adding that from a fiduciary responsibility standpoint, issuers of no-load mutual funds with taxable investors should be considering using a white label issuer to get their products converted, because it is simply better for the end client.  

And even though an issuer may have a lot of experience in mutual funds, that doesn’t mean they know how to run an ETF. Not only are the capital markets related to ETFs very different from capital markets for mutual funds, basket management is the source of the bulk of ETF tax advantages, according to Venuto.  

“I think there is a structural disadvantage to mutual funds in the marketplace,” Cleary said. “Now that Rule 6c-11 has come along, now that customer adoption is accelerated, you have a boutique industry, with a surge in demand and a structurally better vehicle for 95% of strategies. I think [Eric Balchunas’ estimate of] $1 trillion is on the small side. Frankly, I think it'd be much more.” 

Venuto projected that mutual fund conversions will represent 15% of his firm’s white label ETF business within three years. Meanwhile, Cleary said that while estimates can vary, he thinks such conversions could represent up to half of ETF Architect’s business in three years.  

Contact Heather Bell at [email protected]