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Dodd Kittsley, Davis Advisors

US mutual fund conversions gain traction


A handful of US firms are converting mutual funds to ETFs at the start of this year, but it’s not a one size fits all solution writes Bailey McCann.

A handful of US firms are converting mutual funds to ETFs at the start of this year, but it’s not a one size fits all solution writes Bailey McCann.

Mutual fund to ETF conversions have been a hot topic among asset managers ever since Guinness Atkinson completed the first successful conversion at the end of last year. Since then, other firms including Dimensional Fund Advisors, JP Morgan, and Franklin Templeton have all announced similar moves.

Dimensional entered the ETF space in 2020, transitioning six mutual funds and launching seven dedicated ETF strategies. The firm is now the largest active ETF manager with USD45 billion across its fund lineup. J.P. Morgan is poised to convert four funds amounting to approximately USD9.1 billion of assets following recent board approval. Franklin Templeton will convert two funds from its lineup – the Brandywine Global Dynamic US Large Cap Fund (LMBJX) and the Martin Currie International Sustainable Equity Fund (LUFIX) which have approximately USD253 million in assets.

According to recent research from Cerulli Associates, these conversions are only the beginning. Cerulli expects that the number of mutual fund conversions could grow this year as more active managers consider new distribution channels for their strategies. “Managers considering launching active ETFs should also keep an eye on the dual-share-class structure used by Vanguard, which comes off patent in 2023,” says Daniil Shapiro, associate director at Cerulli in a recent research note. Previous Cerulli research finds that 38 per cent of issuers are at least considering offering products via this structure.

These findings track with responses in ETF Express’ ETF Global Outlook 2022.

For asset managers considering making the jump, there are some pros and cons to consider. 

Getting a leg up on the competition

ETFs have grown in popularity with investors over the years because of their favourable tax treatment and overall ease of use. Converting mutual funds to ETFs can bring those benefits directly to existing customers – a key benefit for mutual fund managers who have been dealing with a steady stream of outflows over the years. 

“If you can bring your own assets with you that can open a lot of doors quickly,” says John Swolfs co-founder of AdvisorCircle. “Asset managers are more competitive with funds over USD100 million. If going for institutional mandates is part of your strategy, you need to have at least that much to start having those conversations and getting onto platforms.”

One size does not fit all

Converting a mutual fund is possible but might not work for every strategy or every client base. Amrita Nandakumar, President of Vident Investment Advisory, a firm that consults on new ETF issuance and conversions, notes that the advent of semi-transparent ETFs has been viewed favorably by mutual fund managers concerned about giving away their strategy, but that structure is limited to US equities. For strategies that include other asset classes, a fully transparent ETF may be the only option – at least for now.  

“It’s likely that the rules governing what is allowed in the ETF wrapper will continue to evolve, but if you want to convert a fund now, in many cases that will mean going with a transparent structure,” she says. 

For firms that have clients in retirement plans or other tax-advantaged structures converting the mutual funds in those portfolios to ETFs may not work as well. The conversion framework doesn’t yet deal with fractional shares which are common in mutual funds and the tax benefits of converting an already tax-advantaged fund to an ETF may be minimal.

Dodd Kittsley, Director at Davis Advisors explains that when Davis got into ETFs, the firm opted to do a parallel fund lineup in part because of some of these issues. 

“We have clients that prefer the mutual fund structure because of the ease of dollar-cost averaging and we also have clients in retirement accounts where keeping the mutual fund makes sense,” he explains. “We opted to launch our ETFs as a separate product for the clients that wanted them and it has also allowed us to expand our distribution.”

Kittsley adds there’s no one right way to enter the ETF space. “I think each firm is going to define success in its own way,” he says. “That said, I do think we’re going to see more conversions and more firms offering parallel ETFs. It’s hard to argue with client demand and a lot of the demand right now is for ETFs.”

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