PGIA is seeking permission from the Securities and Exchange Commission to create ETFs as a share class of its U.S. mutual funds in advance of Vanguard’s patent on its unique fund structure expiring.
Documents filed with the SEC on Tuesday show that the U.S. arm of Australian asset manager Perpetual Ltd. has asked for an exemptive relief from current rules to add ETFs to the share classes of its actively managed mutual funds. That structure transfers the tax efficiency an ETF to the mutual fund, essentially removing it of taxable gains.
The relief, should the SEC grant it, could apply to 20 products with about $100 billion in assets across PGIA’s five U.S. subsidiaries — Barrow Hanley Global Investors; J O Hambro Capital Management; Regnan; Trillium Asset Management; and Thompson, Siegel & Walmsley. And if successful, PIGA will be able to replicate a system Vanguard has used exclusively for more than two decades.
Vanguard has held a patent on this unique mutual fund/ETF hybrid structure since 2001, making it difficult for competitors to replicate it. The firm has used this structure to cut the capital gains reported by its funds. That patent expires in May.
“Vanguard has 70 strategies and $2 trillion in assets” in its ETFs, Robert Kenyon, COO of PGIA, told Bloomberg at Exchange: An ETF Experience. “They’re the only ones who can do this at the moment.” But if PGIA is successful, Kenyon said: “it does open up an opportunity that is attractive to the rest of the world.”
Although the industry has known for a while that Vanguard’s patents would expire this year, it’s still not clear how this will play out. PGIA still needs a proactive approval from the SEC to implement a share class structure, and VettaFi’s Financial Futurist Dave Nadig isn’t sure that the SEC will “just rubber stamp something just because Vanguard got away with it all those years ago.”
“If PGIA is successful, it won’t be quick and easy, I suspect,” Nadig said. “There will likely be lots of rounds of back and forth with the issuer trying to ‘prove’ that they can implement this structure cleanly and that it doesn’t disadvantage one class of shareholder over another. The scrutiny will be intense.”
However, if PGIA does get approval, Nadig expects “a floodgate to open on share-class filings from big traditional mutual fund players, especially those with strong defined contribution presence,” citing funds used in a 401(k), which “are essentially impossible to convert,” as an example.
“So, a share class would give them a way to get into the ETF game without either having to clone a strategy (like FMAG), or convert (like DFA’s suite of ETFs),” he added. “However, I’m not particularly sanguine on those chances in the next, say, 12 months.”