What would happen if the second largest provider of ETFs, best known for low-cost index funds, entered the actively managed ETF market?
It’s a question that asset managers are probably asking since Vanguard in late May updated its filing with the Securities and Exchange Commission to offer actively managed ETFs.
“Just as index-based ETFs expanded access to low-cost Vanguard index funds, we believe we can provide a greater number of investors with low-cost access to our active management expertise through an ETF,” a Vanguard spokeswoman wrote ThinkAdvisor, in response to questions.
She noted that Vanguard already offers actively managed ETFs in the U.K. and Canada and that the firm’s filing to offer similar products in the U.S. “merely signifies a continued dialogue” with regulators about seeking exemptive relief to give the firm flexibility to diversify its U.S. product lineup.
“The Vanguard thing is huge,” said Eric Balchunas, an ETF analyst for Bloomberg Intelligence, at a recent Inside Smart Beta conference in New York City. “This will be the next game changer, Vanguard going into ETFs. The reason why and the most important thing: They will be cheap.”
He noted that fees for Vanguard’s actively managed ETFs launched in London are less than 30 basis points, while the average fee for actively managed ETFs is 81 basis points and, on an asset-weighted basis, 61 basis points. Low-cost actively managed ETFs from Vanguard have the potential to shake up a market when “the expense ratio is the number one thing people look at,” said Balchunas. “This is huge.”
And it could happen this year, according to Todd Rosenbluth, director of ETF and mutual fund research at CFRA.
The Vanguard spokeswoman declined to discuss the timeline for introducing these new products, their costs or specific strategies but said, “I think you can be confident that Vanguard will continue to set the standard as the industry’s all-the-time, across-the-board low cost leader. We have a history of leading the way in driving down costs for all investors.”
Rosenbluth agrees. A low-cost actively managed ETF offering from Vanguard “will reset the bar for costs … causing the industry to respond to bring fees down or offer differentiated products.” He likens a Vanguard entry into the actively managed ETF space to an elephant in the jungle. “The other animals should take notice.”
In the current ETF market, the average Vanguard fund has $10 billion in assets, said Rosenbluth, and year-to-date through May, Vanguard ETFs attracted almost $65 billion in net inflows, second only to BlackRock’s $95 billion, according to ETF.com.
Rosenbluth and Ben Johnson, director of global ETF research at Morningstar, speculate that a global minimum volatility ETF, which Vanguard has already introduced in the U.K. and Canada, could be among the first actively managed ETFs it markets in the U.S.
It would be unlike a typical actively managed fund because it won’t be based on picking stocks but on a “largely quantitative driven process,” said Johnson.
Vanguard calls the process “factor investing” in its brochure for actively managed ETFs sold in Canada, avoiding the “smart beta” label. The funds use a “rules-based active strategy to target the risk and return premiums of four well-documented factors: minimum volatility, value, momentum and liquidity,” according to the brochure.
Another distinction for a Vanguard actively managed ETF would be its transparency, reporting holdings on a daily basis. Although that is the case with ETFs – both passive and active – from other firms, that hasn’t been the case with Vanguard, which may surprise some investors and advisors. Vanguard currently discloses all its fund holdings for index ETFs and mutual funds on a monthly basis, with a 15 calendar-day delay.
“We still believe that daily portfolio holdings disclosure is generally not in fund shareholders’ best interests, said the spokeswoman. “However, the SEC has made it clear that they view transparency as important to any actively managed ETF application. As such, currently we are only considering active ETFs that follow certain strategies — generally, high capacity, model-driven strategies — that can accommodate daily portfolio holdings disclosure.”
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