In the asset management industry, active mutual fund issuers are converting their products to exchange traded funds. Why?
These new funds represent the best of both worlds: the advantages of active management with the liquidity and tradability of ETFs, something that has long eluded the actively managed mutual fund industry.
With more traditional mutual funds eyeing the ETF space but reluctant to give up their secret sauce, many are looking into non-transparent exchange traded products as a way to combine the best of two worlds. Market observers are forecasting growth in 2021 for the new fund structure.
“Many of the advantages of converting a mutual fund to an ETF are synonymous with the advantages of the ETF wrapper. It’s all about where these funds will ultimately land, the packaging, the form that they’ll ultimately take,” said Morningstar Global Director of ETF Research Ben Johnson. “And I would argue that chief amongst those is the relative tax efficiency of the ETF packaging versus a mutual fund packaging, because ETFs have the ability to regularly send securities out of their portfolios on an in-kind basis, so they can offload stocks and bonds whole directly to a third party, as opposed to having to liquidate them to either sell down positions or meet redemption requests.”
What Should You Know about ETFs?
There are some important things to understand for investors coming from the traditional mutual fund model.
The most important thing to know is that ETFs will inherently have a bid-ask spread that may at times cost an investor some money, so it’s important to watch this when trading.
Many traditional fund companies are looking at making similar conversions as ETF popularity continues to grow among self-directed investors and financial advisors.
“Lastly, transaction costs are likely going to be less because many ETFs trade commission-free across a large number of platforms, which has been a big development in recent years,” notes Johnson. “Meanwhile, many mutual fund investors are still paying commissions as they transact in their mutual funds that they’re investing in today. This is a key point of appeal, I think, to the advisor market in particular, where they’re making many transactions across a large number of client accounts in any given day and would much prefer to be able to save that money and allow it to compound to their client’s benefit.”
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