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ETF Closures Are Good for the Industry—and Usually Investors


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ETFs had their genesis in 1989 with Index Participation Shares, an S&P 500 proxy that traded on the American Stock Exchange.
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Invesco’s recent announcement that it’s shuttering 42 ETFs in 2020, after having closed 19 in 2019, adds to the nearly 1,000 closures over the past 10 years. Companies have closed funds even as assets have flooded the industry, and the closures haven’t always been good for investors.

There is now $4.3 trillion in 2,402 ETFs. But the industry is absurdly concentrated: Sixty-five percent of assets are held by BlackRock and Vanguard Group alone; along with State Street, Invesco, and Charles Schwab, they house 90% of all industry assets. Twenty-five percent of all industry assets are held in just 10 ETFs owned by those five firms.

That’s a tough competitive landscape, and newer providers vying for a bigger share of the market, along with established companies looking to broaden their lineup, have been rolling out new ETFs at a rapid pace—and closing them almost as quickly. In the first three years of the past decade, closures averaged 58 per year. In the past three years, that number was 136. And funds are closing more quickly than in the past. Dave Nadig, founder of ETF.com, reports that “funds that fail [now] fail faster.”

Many of these funds had limited appeal and failed to gather assets: One focused on the Nashville area, while others included a restaurant ETF, a whiskey ETF, the Democratic Policies fund, the Republican Policies fund, the United States Diesel-Heating Oil fund, the Wisdom Tree Coal fund, the GlobalX Fishing Industry ETF, and the CurrencyShares Russian Ruble Trust. None of these amassed more than $14 million in assets.

As a general rule, it takes $50 million to make a fund viable and worth keeping open, says Todd Rosenbluth, head of ETF and mutual fund research at CFRM, “but there’s no hard rule.” Still, failure to gain at least $50 million in assets within a few years tends to be the leading criterion for closing.I

ETFs’ cousins, exchange-traded notes—or ETNs—are subject to abrupt closures for other reasons. ETNs are debt instruments, similar to a bond or the promise of a bank to deliver the return of an index, often using futures and other derivatives against investors’ capital. Reasons for ETN closures vary, but sometimes a bank in this arrangement can be on the hook for more than what an ETN is worth, which means swift market moves can trigger a liquidation. In 2018, some ETNs that trade volatility closed when markets had large single-day drops, causing volatility to spike nearly 100%.

The Invesco closures point to another reason for pruning—redundancy. Invesco acquired Guggenheim’s ETFs in 2018 and Oppenheimer’s in 2019. Many of the closures in Invesco’s recent announcement were the result of duplication as a result of those acquisitions, while some funds were simply too small and less liquid. Still, “Invesco is closing [some] ETFs that are 10 years old,” says Rosenbluth. Duplication means that the $50 million threshold is less likely to prevent closings.

777彩票地址Nadig notes that the open-close ratio has come down from nearly 2-to-1 four years ago to 1.5-to-1. In other words, there used to be two launches for every closure, and now there are one and a half, on average. “This is very healthy,” he says. “The last thing the investment world needs is a bunch of zombie ETFs with no assets and no volume. That leads to potentially bad experiences for investors. I would much rather see funds close.”

Rosenbluth concurs. “At the industry level, closures are healthy as they remove products from the shelf that were not in demand and allow asset managers to focus the education on products that are appealing to a large audience,” he says. Moreover, “it is common for a firm to launch and close products in the same year.”

But closures can create bad investor experiences as much as zombie funds can. Mark Gleason, a portfolio manager at Wescap Group in Glendale, Calif., says his clients collectively owned 8% of Invesco Insider Sentiment777彩票地址 (ticker: NFO), an ETF with more than $80 million in assets that is among those slated to close. “Our clients are about to be hit by a lot of capital gains next year” as a result, he says.

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Clearly, that is a problem for those investors. But there is good reason for fund firms to clean house periodically to update their offerings. The Insider Sentiment ETF, for example, uses a rules-based strategy to select a portfolio of equally weighted stocks using corporate insider buying trends, momentum, and volatility.

777彩票地址“We treat feedback from advisors very seriously,” an Invesco spokeswoman says.

Over the past decade, the fund lagged behind the S&P 500777彩票地址 index on an annualized basis by around one percentage point, though over the past three years it has tied the index on an annualized basis. Still, its net expense ratio of 0.66% is 16 times higher than the 0.04% charged by the largest S&P 500 funds.

Write to John Coumarianos at john.coumarianos@barrons.com


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