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What the US can learn from Sweden about how to launch a bitcoin fund

Many Americans are tired of hearing about how Scandinavian societies have figured out how to do everything better than us, but here’s one more: how to launch a bitcoin fund.

The Securities and Exchange Commission and ETF companies can’t agree on how to bring a bitcoin exchange-traded fund to market. Just last week four prospective bitcoin ETF issuers withdrew their filings for new funds tracking the digital currency after the SEC shot them down, citing concerns about trading liquidity and valuation of underlying bitcoin futures.

But a Swedish company has proved how it can be done. It has successfully run a bitcoin exchange-traded product for the last two years that can be accessed by European investors in multiple countries, and the products have attracted more than $1 billion.

Stockholm-based XBT Providers launched its CoinShares series in 2015. The XBT Bitcoin Tracker One (COINXBT) trades in Swedish krona, while the XBT Bitcoin Tracker Euro (COINXBE) — they launched on the Nasdaq Stockholm in 2015. XBT also issued versions in Denmark, Finland, Estonia and Latvia. In the Swedish krona version, 200 shares equal the price of one bitcoin, and in the euro version 20 shares equal the price of one bitcoin.

The big difference between the successful Swedish launch and the impasse in the United States is the type of exchange-traded product: the XBT portfolios are exchange-traded notes (ETN), not exchange-traded funds.

An ETN is an unsecured debt instrument that promises to pay the pattern of returns of the bitcoin price. Ironically, despite being an unsecure instrument, the XBT product tracks the spot price of bitcoin by holding the actual currency and forward contracts in case of a liquidity shortfall.

“At that point in time, the ETN structure was the best route to bring the products to market,” said Laurent Kssis, chief executive officer of XBT Provider. “As a result of using this structure to bring the product to market, investors have been able to gain exposure to the price movement of bitcoin since 2015. This stands opposed to the U.S., where most investors are still waiting for access to bitcoin exposure via their normal brokerage account.”

There are three ways to construct a bitcoin portfolio

There are three different ways in which a firm could create a bitcoin exchange-traded product. It could create an exchange-traded fund that owns and stores actual bitcoins, similar to the SPDR Gold Shares ETF (GLD). GLD tracks the spot price of gold by holding physical gold bricks in bank vaults in London. The second way is a bitcoin futures ETF, which approximates the price of bitcoin by owning bitcoin futures products. That’s been the dominant paradigm for SEC filings, including the ones recently pulled, due to the recent uptick in bitcoin futures contracts offered by major U.S. exchanges and securities firms.

“I think using the ETN structure to launch a bitcoin product was a good fit,” said Arlene Reyes, chief operating officer of Exchangetradedfunds.com, a website that reports on global ETFs. “ETNs are unsecured instruments backed by the credit of the issuer, and it tracks the performance of the underlying asset. … XBT Provider holds bitcoins equal to the value of ETN shares issued and tracks the performance of the price of bitcoin. I can see how this structure would be attractive to regulators.”

“I don’t know why an ETN hasn’t been done yet. We know other people are in discussions to make one, but it’s not us. We know it’s being talked about.” -Garrett Stevens, chief executive officer of Exchange Traded Concepts

This past October, XBT came out with two more ETPs to track the second most highly used cryptocurrency, ether, in both Swedish krona and euros: Ether Tracker One (COINETH) and Ether Tracker euro (COINETHE). These also are listed on the Nasdaq Stockholm for European investors.

One of the ETF companies that filed for a bitcoin ETF has looked at the ETN route and says others have been talking about it as well.

“We have considered notes with regards to bitcoin, but we have not had the opportunity,” said Garrett Stevens, the chief executive officer of Exchange Traded Concepts, which worked with REX ETF on a rejected bitcoin futures fund. “But we are a white-label company and we do what someone else wants. That’s what the REX guys wanted, so that’s what we created. I don’t know why an ETN hasn’t been done yet. We know other people are in discussions to make one, but it’s not us. We know it’s being talked about.”

There is one product that currently gives U.S. investors access to the bitcoin market — the Bitcoin Investment Trust (GBTC), managed by Grayscale Investments. However, GBTC is not an ETF, despite press reports. It’s not SEC-registered, and it trades on the Nasdaq over-the-counter markets. It’s highly volatile and can trade at an extreme premium to the price of bitcoin. Some brokers, including Merrill Lynch, are refusing to sell GBTC and other bitcoin-related securities to their clients.

Because they trade on an exchange, products like ETFs and ETNs are not only priced using a net asset value (NAV) — the value of securities held minus liabilities and divided by shares outstanding — that is calculated at the end of each day and by intraday NAV (iNAV) throughout the day. They also have a current market price, which can be more (a premium) or less (a discount) to actual value. The more volatile a market, the more likely there is to be a premium/discount issue.

“The [XBT] products are very well designed for what they do. They deliver, unlike GBTC,” said Matt Hougan, the chief executive of Inside ETFs, an ETF education company. “They give exposure to the returns of bitcoin and ether pretty well. I think they were well executed and they’ve done their job.”

But Michael Sonnenshein, managing director of Grayscale Investments, remains positive. “We are thrilled about the response of the market to the Bitcoin Investment Trust since it became publicly quoted in 2015,” he said. “My team is looking forward to bringing our second vehicle, the Ethereum Classic Investment Trust, to the OTCQX market in second quarter of 2018.”

Some ETF experts believe the chances remain good for a bitcoin ETF to be approved this year.

Before the crash, ETNs were more popular in the US

ETNs were once among regular exchange-traded product launches in the United States, though never at the level of exchange-traded funds in number of portfolios or assets raised. They were more popular with banks as issuers — which had the existing debt businesses to structure the credit side of the investment — than with standalone asset-management companies.

Before the financial crash, there were dozens of ETNs that covered commodities sectors, and many still exist today. But ETNs became less popular after the financial crash, based on the theoretical risk that a failure like Lehman Brothers could expose ETN investors to severe credit risk. While the theoretical risks did not play out, ETNs waned in popularity among new launches.

At the end of 2008, near the depths of the fiscal crisis, there were 74 ETNs, totaling $3.6 billion in assets under management. By the end of 2017, there were 204 ETNs, with combined assets of $24.9 billion, according to ETF.com

ETF companies that have filed for bitcoin ETFs, including REX, Proshares, Van Eck and Direxion declined to comment. Gemini, the investment company of the Winklevoss twins, did not respond to a request for comment.

Like the U.S.-based GBTC, the XBT bitcoin ETNs typically trade at a premium or discount to the actual price of bitcoin, but the range has been much smaller than in the case of GBTC, between 1 percent and 3 percent.

According to Bloomberg, the 52-week average percent premium is 0.46 percent, but it has been as high as 21 percent and as low as negative 16 percent. Still that’s a far cry from the 65 percent premium seen on GBTC.

“What Laurent has proven is the ETN structure has worked and been able to deliver that pattern of returns that’s different from the two paradigms filed with the SEC, which is the physical and the bitcoin futures products,” Hougan said. He also thinks the premium/discount issue is being handled fairly well in the case of XBT’s bitcoin portfolios.

“Bitcoin is an expensive product to trade, custody, store and service at this point. So I don’t think a 3 percent premium in the ETN is absurd,” he said. “That makes the ETN a viable approach.”

Currently, the two Bitcoin Trackers combined (krona and euro) have total assets of $900.8 million, and the two Ether Trackers have total assets of $439.3 million.

By Lawrence Carrel, special to CNBC.com

Why Buy A More Expensive ETF When A Similar Cheaper One Is Available?

 

Yet two of the biggest ETF providers, BlackRock’s iShares and State Street Global Advisors, offer funds that charge significantly more than other funds they offer with similar exposures. Why would an investor choose the more expensive fund?

A prime example is iShares MSCI Emerging Markets (EEM), which tracks the MSCI Emerging Markets Index, the most widely followed benchmark in the emerging-market sector. It charges an expense ratio of 0.72%.

But the company offers a very similar fund, iShares Core MSCI Emerging Markets (IEMG), which only charges 0.14%. What’s the difference? While the MSCI Emerging Markets Index is primarily made up of large-cap stocks, the cheaper fund follows a multicap index, the MSCI Emerging Markets Investable Markets Index, which holds more than twice as many components, including all the stocks in the first index plus midcap and small-cap stocks.

With broader market exposure and a lower expense ratio, IEMG, which was launched in October 2012, is the more popular fund, with $40 billion in assets. But even with its drawbacks, EEM (which dates back to April 2003) still weighs in with $37.7 billion in assets.

Why does iShares continue to offer such an expensive fund — and why does it still attract investors?

Five years ago, iShares launched its Core Series of ETFs, a suite of 10 equity and fixed-income funds aimed at the buy-and-hold investor with dramatically lowered expense ratios. There are now 25 Core ETFs. The majority have expense ratios lower than 0.1%, and none is higher than 0.25%.

“IShares launched their Core Series at a time when they were losing market share to Vanguard because many of their core products chiefly were not priced competitively,” said Ben Johnson, Morningstar’s director of global ETF research. “It was part defense, part offense to stop the bleeding of the market-share losses to Vanguard.”

And fees play a major but not absolute role in the returns of the similar but not identical emerging-market ETFs, much as one would expect. In the year ended Oct. 31, EEM actually inched higher with a 25.64% return vs. 25.58% for IEMG. But over time, the cheaper fund has posted better results: an average annual 5.6% vs. 5.06% for the past three years and 4.92% vs. 4.22% for the past five years. The difference is practically the difference in the expense ratios.

Funds like EEM that track established benchmarks seem to be attracting traders and institutional investors who hold ETFs for shorter periods of time and aren’t as concerned about the expense ratio. Traders may use these ETFs because they are more available for borrowing to sell short and have a much deeper options and swaps ecosystem.

“There is an appeal for that product, which they are more familiar with and continue to use,” said Todd Rosenbluth, director of ETF and mutual fund research at CFRA Research. “For others the appeal is the considerably more volume and greater liquidity.” EEM trades 49 million shares a day, while IEMG has an average daily volume of 7 million shares.

Rosenbluth says the situation is the same with iShares MSCI EAFE (EFA), which tracks the widely followed benchmark for the developed nations, the MSCI EAFE Index, and has an expense ratio of 0.33%. That compares with iShares Core MSCI EAFE (IEFA). The core fund tracks the broader MSCI EAFE IMI Index and charges only 0.08%.

EFA is much more liquid, with average daily volume of 15 million shares vs. IEFA’s 4 million shares.

Meanwhile, State Street, realizing it was already late to the game where investors were demanding lower fees, decided that it would take too long to build assets and get onto important trading platforms if it created a new line of funds, said Matthew Bartolini, head of SPDR Americas research.

Instead, the firm decided to restructure a group of existing funds that already had assets and a user base. They rebranded 15 funds to make a consistent suite called the SPDR Portfolio, cut the fees, split the share prices so that they all started at $30, and if needed changed the index. Well-known funds such as SPDR S&P 500 (SPY) and SPDR S&P MidCap 400 ETF (MDY) weren’t changed for the same reasons EEM still exists.

“In order to be successful and have an impact for clients in a low-cost arena, you can’t just cut fees,” said Bartolini. “So we restructured 15 funds across every key asset class in equity and fixed income and aggressively cut costs to be the lowest or match the lowest price in the marketplace.”

The upshot is that traders might prefer the older indexes even if they’re a bit more expensive, while buy-and-hold investors might prefer the cheaper versions.

How To Find An Advisor Who Focuses On ETFs

Given the explosive growth in exchange traded funds with their vast investment offerings, low cost and tax-efficiency, chances are your financial advisor has at least considered using them in part or all of your portfolio.

But what if he or she doesn’t? It might be time to ask them why not. And if the answer is unsatisfactory, look for one that does.

ETFs might not be right for every part of your portfolio, but they could be a good fit in various areas.

For example, does your investment plan call for some exposure to the broad stock market? There are many ETFs that track the S&P 500 and broader indexes offered by the big ETF providers, BlackRock’s iShares, State Street Global Advisors’ SPDRs and Vanguard. If your advisor chooses a more expensive way to gain exposure to the stock market, there might be a reason, but there should be an explanation.

If you’re unsatisfied with the answer or are just beginning your search for an advisor, where do you start?

You can ask friends and family for referrals. You should also check out the National Association of Personal Financial Advisors, or NAPFA. It’s a professional association of fee-only financial advisors that started in 1983. They have a registry of advisors and chances are there are several near you.

If you have at least $500,000 to invest, you can also try Schwab Advisor Network. Other brokerages can also help refer you to financial advisors.

But if you start your conversation with an advisor by asking if he or she invests in ETFs, be prepared to get a question or two thrown back at you before you get an full answer. That’s because advisors are trained to look at your investment goals and risk tolerance before choosing investments that fit your needs.

Nik Schuurmans, the founder of Pure Portfolios, a registered investment advisor (RIA) in Portland, Ore., says to get an ETF-focused advisor you need to go with an independent RIA who doesn’t have a relationship with a mutual fund family, so he or she doesn’t have to push mutual funds. He says if you’re willing to embrace technology you can also try a robo-advisor. NerdWallet’s top 2017 robo-advisor picks include Betterment, Wealthfront, Wealthsimple, WiseBanyan, Charles Schwab and Fidelity Go.

“I don’t believe a consumer should use ETFs vs. other products as the criteria for using advisors,” said Matthew S. Clement, president of Emerald Retirement Planning Group in Stony Point, N.Y., an RIA that uses ETFs in its client portfolios. “I don’t mean it shouldn’t be part of the conversation. But it would be misguided to be the main reason. And it misses the fundamental issues for some hiring an advisor in the first place.”

Clement said the fundamental question when choosing one advisor over another is: “What do I expect this advisor to do for me?”

“There’s no book with the title ‘Advisors That Use Only ETFs,’ ” said Steve Dunn, executive director of ETF Securities, a specialist commodity exchange traded product provider. “But, it’s becoming much more common to find them. You have to find an advisor with a consistent philosophy of what you expect.”

Dunn suggests a group of advisors called the Zero Alpha Group, or ZAG.

“Their website lists firms that buy into this passive low-cost alternative.”

But the best known resource is a site called the Paladin Research & Registry. Started in 2003, the site is run by founder Jack Waymire, the author of “Who’s Watching Your Money?: The 17 Paladin Principles for Selecting a Financial Advisor.”

Advisors pay a membership fee to join the registry, which then vets them before they are listed in the registry.

Paladin reviews and documents financial advisors’ credentials, education, experience, ethics, business practices, services, certifications, associations and continuing education.

“Most advisors present themselves in the form of sales pitches,” said Waymire. “We require transparency. If an advisor is telling people he’s an expert, where did that expertise come from?”

It looks at advisors’ fiduciary status, license, registration and compliance record at finra.org.

The registry lists what services advisors provide, how they are compensated, and how they communicate with clients. And for our person looking for an ETF-focused advisor, it lists a manager’s strategy, whether passive or active.

“Passive and ETFs are virtually synonymous,” said Waymire.

After checking the data, it rates the advisor’s quality. An advisor needs to achieve a specific score to get into the registry.

Waymire said investors could query Paladin for another level of detail such as “I’m looking for an advisor that uses passive management with ETFs.” He said if they want to do research that goes one level deeper they need to go the advisor’s website. He also recommends that investors check out the advisor on finra’s brokercheck.

This was originally published in Investor’s Business Daily.

Money Managers Lure Millennials With Low Minimums, Live Advice

The traditional financial advisor rarely takes on new clients with a nest egg smaller than $100,000.

But the financial advisory industry is coming up against two large speed bumps that could spark a paradigm shift: the rise of the robo-advisor and the fact that the second half of the millennial generation is entering the workforce and starting to invest.

This has led one registered investment advisor to rethink its strategy for acquiring clients. M&R Capital Management is a 24-year-old firm with $500 million under management. The New York-based RIA — which manages money for individuals, institutions and charities — typically requires $250,000 to open a separately managed account (SMA). Its average SMA rose 13.05% in the past year and for the past three and five years returned an average annual 2.89% and 6.26% respectively, M&R says.

However, the firm’s members realized their growth strategy needed to focus on the millennial generation. With many millennials still in their early to mid-20s, few have the nest egg to open an SMA. Most don’t even have savings.

But the few sophisticated enough to invest are looking at the same place where they do their shopping and banking — the computer — and opening accounts with robo-advisors.

So M&R Capital decided to lower its account minimum. It created Prime Funds, a set of ETF-based model portfolios in which people could open an account with as little as $500.

“This is our way to compete with the robo-advisor,” said Paul DeSisto, director and senior portfolio manager at M&R. “The idea was to get young workers. People who don’t have much money to invest and get them invested right away with some safety and growth.”

DeSisto said the idea is to make them clients when they are small investors, help them grow large portfolios, then 15 or 20 years later move them into an SMA.

“We feel that people still want to talk to somebody,” said DeSisto. “They can call at any time and have access to the portfolio managers.”

M&R is able to accept such small accounts by keeping costs low. Prime Funds clients only have a choice of three portfolios. M&R uses the Pershing FundVest ETF platform, which lets M&R trade ETFs commission-free. The clients can’t trade ETFs on their own. M&R charges each account an annual fee of 1%. That’s on top of the fees that the ETFs charge, which range from 0.15% to 0.57% of assets a year.

The three portfolios currently available are: growth, value, and equity income.

The growth portfolio consists of a 42.5% allocation of PowerShares Dynamic Large Cap Growth Portfolio (PWB), 15% SPDR S&P 400 Mid Cap Growth (MDYG), 32.5% SPDR S&P 600 Small Cap Growth (SLYG), and 10% PowerShares S&P International Developed Quality Portfolio (IDHQ).

The value portfolio consists of PowerShares Dynamic Large Cap Value Portfolio (PWV), Oppenheimer Mid Cap Revenue ETF (RWK), SPDR S&P 600 Small Cap Value (SLYV), and IDHQ.

The high-distribution equity-income portfolio is comprised of PowerShares S&P 500 High Dividend Low Volatility Portfolio (SPHD), SPDR S&P 400 Mid Cap Value (MDYV), PowerShares S&P SmallCap Low Volatility Portfolio (XSLV), and IDHQ.

The funds have been up and running since July 31. Through the end of September, the growth portfolio has a return of 6.1% and $95,000 in assets. The others don’t have assets yet.

While it’s not a full-blown trend, M&R isn’t alone in taking on clients with small accounts. Some, like Jeremy Torgerson, the founder of nVest Advisors, an RIA in Denver, has been taking on small accounts for two years because he sees how the robo-advisor technology is overrunning the industry. He offers his clients five ETF-based model portfolios.

“I’ve structured my practice to be a touch of robo and a touch of human to hold their hands,” said Torgerson. “If you get these people on the ground floor and be there for them, you will have a lifelong client.”

Hunter von Unschuld, the founder of Fractal Profile Wealth Management, an RIA in Albuquerque, N.M., retired as an attorney in 2013 and has been managing money since. He won’t turn anyone away — and offers eight ETF-based portfolios.

“We take small accounts because it’s my belief that everyone that needs help with their finances and retirement planning should be able to get help no matter their account size,” he said.

This was originally published in Investor’s Business Daily.

Investors Vote With Their Feet Before Scottish Poll

As Scotland votes on its independence Thursday, the fate of the U.K. remains too close to call.

But ETF investors have been voting all month — with their money. Of the eight U.S.-listed ETFs specific to the U.K., three of the largest have seen large net cash outflow, while the remaining five have seen inflow match outflow.

IShares MSCI United Kingdom ETF (EWU) — the largest U.K.-related ETF, with a market cap of $4.13 billion — saw outflow of $40.5 million in August, says Morningstar. The fund tracks about 85% of the U.K. stock market. Its top three holdings are HSBC Holdings at 7.1% of assets, Royal Dutch Shell at 5.3% and BP at 4.9%.

The fund has tumbled 9% from its June high.

IShares MSCI United Kingdom Small-Cap ETF (EWUS) saw outflow of $10.2 million for the month ended Sept. 15, nearly a quarter of its total assets, according to research firm XTF. With its price declining 2% the past month, the fund has sunk 9% from its June high.

Even though investors have known about the vote all year, recent polls showing that the Scots favor leaving Great Britain have flamed uncertainty. And investors are famous for hating uncertainty.

“The vote is most important for the U.K., but Scottish independence would have broader significance as well, particularly for the rest of Europe,” wrote Russ Koesterich, global chief investment strategist for BlackRock’s iShares business, in a recent note. “At the very least, sterling and other U.K. assets would likely come under additional pressure. In addition, given that Scotland is typically more pro-European Union than the rest of the U.K., a departure could raise the odds of an eventual U.K. exit from the EU, which would only add to uncertainty in the region.”

Should the Scots vote “Yes,” the biggest losers will be the British pound sterling and Prime Minister David Cameron, who may be forced to call a new election.

CurrencyShares British Pound Sterling Trust (FXB), which tracks the performance of the pound against the dollar, saw the second most outflow over the past 30 days, $16.3 million, leaving it with $63.8 million in assets, according to XTF. FXB’s price fell 2% the past month and is down 5% from July, when the pound hit a multiyear high.

“If they vote ‘Yes,’ people might flee out of sterling because the government might be toppled,” said Axel Merk, president and chief investment officer of Merk Investments in Palo Alto, Calif. “But I’ve been buying sterling because I believe there will be a relief rally when the Scots say ‘No.'”

FXB has rallied 2% in the past seven sessions.

Scotland accounts for about 10% of Britain’s gross domestic product, but a “Yes” vote will create a lot of uncertainty over the North Sea oil assets, says Merk. People who don’t want uncertainty will take their capital from Edinburgh to London, he says.

Bucking the trend, Deutsche X-trackers MSCI United Kingdom Hedged Equity ETF (DBUK) is up 5% in the past month. It provides exposure to the U.K. stock market while using a hedging strategy to benefit from weakness in the pound.

For the full story go to Investor’s Business Daily.

ETF Assets Grew 25% in 2013 Says ICI

The U.S. exchange-traded-fund industry added a net of 99 new ETFs, or growth of 8.2%, for a total of 1,293 funds, according to the Investment Company Institute.

The combined assets of the nation’s ETFs grew 1.9% in December and 25.2% for all of 2013 to end the year at $1.675 trillion, reported the Institute, the trade group for the mutual fund and ETF industries better known as the ICI.

Ironically, while saw fixed income saw the greatest growth with 36 new funds, or 17.8%, it posted the smallest asset growth, just 1%, to $245.9 billion. No doubt, this is a result of the massive outflows as bond investors reposition their portfolios in anticipation of the Federal Reserve reducing its bond purchasing as part of the Quantitative Easing program.

Meanwhile, even though the hybrid category added just one new fund in 2013 for a total of 14, it posted the greatest asset growth, 121%, to $1.45 billion.

The total number of domestic equity funds, which includes commodity ETFs, grew 4.9% to 603. Domestic equity assets jumped 35% to $1.028 trillion. Global and international equity funds grew 8.4% to 438, while assets under management jumped 21.3% to $398.85 billion.

During December, the value of all ETF shares issued, or net issuance, exceeded that of shares redeemed by $19.97 billion, a 39% drop from the net issuance of $32.58 billion in December 2012. Net issuance for all of 2013 was $179.87 billion, a 3% drop from 2012’s net issuance $185.39 billion.

SPDR Turns 20 Years Old

It was 20 years ago today, State Street Global launched the ETF. (Sung to the tune of
Sgt. Pepper’s Lonely Hearts Club Band.)

On January 29, 1993, the first exchange traded fund, called the Standard & Poor’s Depositary Receipt, began trading on the American Stock Exchange. With the abbreviation SPDR, the product was immediately nicknamed “the spider.” The Amex created the product, then called an “index tracking stock,” with State Street’s logistical help, as a way to increase trading volumes on the dying exchange. The first day the SPDR traded one million shares. Not a bad total for that time period. However, a month later trading volumes had shrunk to 19,500 a day and within three months volumes had fallen so low the Amex considered delisting it.

The Amex is now dead and gone, but its legacy lives on as a huge success and flagship of a revolution in investing. Renamed the SPDR S&P 500 (SPY), the Spider is now the largest fund of any kind in the world, with net assets of $123 billion and average daily volume of 144 million shares.

State Street Global Advisors celebrated the 20th anniversary of its product Tuesday with a panel discussion about the present state and future of the industry it helped start.