One of the most cited obstacles for the launch of active ETFs in Europe are the general transparency rules for ETFs. Unlike mutual funds, which under the Undertakings in Collective Investments and Transferable Securities (UCITS) regulation have the obligation to publish their portfolio twice a year, UCITS ETFs need to publish their portfolio on a daily basis. That said, it is somewhat hard to understand why products under the same regulation framework have different transparency requirements.
As one can imagine, a number of active managers who are doing their own in-depth research— especially the so-called stock pickers—don’t want to have their latest picks announced to the market before they have built their positions since this may cause other investors to mimic their transactions to take advantage of their research. This concern seems to be a real issue because daily reporting would make such behavior possible.
However, one needs to bear in mind that the daily reporting duty enables market makers to trade ETFs with low spreads, which is good for investors. If the market makers don’t know the exact constituents of an ETF, they may widen the spreads to price in any kind of valuation and trading risk. In addition to this, market makers may also widen the spreads for these ETFs in times of market turmoil since they don’t know the underlying securities and therefore can’t estimate the respective prices.
That said, regulators need to find a modus operandi that suits all stakeholders when thinking about new transparency rules for (active) ETFs. Currently it looks like the Central Bank of Ireland (CBI) is open to an industry consultation around the rules of portfolio transparency for ETFs. Such new rules in a single domicile might become a game changer for the ETF ecosystem as a whole. That is because this may lead to regulatory arbitrage by ETF promoters. Additionally, investors may face an even higher fragmentation of the on-screen liquidity in Europe since some local regulators may not allow non- or semi-transparent ETFs to be traded on the respective local exchanges. The same is somewhat true for market makers, as some may shy away as liquidity providers for non- or semi-transparent ETFs, while others may prefer the higher trading margins of these products and may, therefore, reduce their role in the trading of transparent plain-vanilla products.
Nevertheless, if such new transparency rules are consistently applied across all major ETF domiciles and are accepted by all local regulators, these rules will become a growth driver for the European ETF industry because they eliminate the major hindrance for the launch of real active ETFs in Europe.
This article is for information purposes only and does not constitute any investment advice.
The views expressed are the views of the author, not necessarily those of Lipper or LSEG.
