Tread Carefully With Non-Transparent ETFs

Late Thursday, the Securities and Exchange Commission again sent shockwaves through the exchange traded products industry by approving Eaton Vance’s (NYSE: EV) for exchange-traded managed funds (ETMFs), a type of exchange traded product that does not disclose its holdings on a daily basis as most passively managed ETFs do.

The impact of that news is palpable as highlighted by shares of Boston-based Eaton Vance, which are up more than 22% today on volume that is nearly six times the daily average. Shares of the asset manager now reside at their highest levels in nearly seven years.

The SEC’s decision to allow Eaton Vance to proceed with ETMFs is a reversal from the Commission’s October rejection of applications by Precidian ETFs Trust and Spruce ETF Trust, a unit of BlackRock (NYSE: BLK), to offer active non-transparent ETFs. [SEC Rebukes Active Non-Transparent ETFs]

While the market is treating the news as ground-breaking, as evidenced by the stellar intraday performance of Eaton Vance, investors may want to curb their enthusiasm for ETMFs and the effect those products could have on any issuer’s stock price.

“Though information is limited at this time, S&P Capital IQ is skeptical that Eaton Vance will be able to take much share from iShares, which is owned by BlackRock (NYSE: BLK), Vanguard and other popular ETF providers,” said S&P Capital IQ in a new research note.

Actively managed products, whether they be mutual funds, ETFs or ETMFs, have a tough road to travel in terms of reclaiming assets lost to passively managed index funds and ETFs and the ongoing laggard status of active managers is not helping the cause.

“Eight out of 10 U.S. stock funds focusing on large growth companies are trailing their benchmark index, the second-highest proportion in a decade,” report Inyoung Hwang and Lu Wang for Bloomberg, citing Morningstar data. [S&P 500 ETFs Crushing Active Managers]

“Further, many investors have gravitated toward passive index ETFs and mutual funds and sold out of active mutual funds because they realized that active managers routinely fail to outperform a given benchmark and/or consistently are unable to outperform their peers,” said S&P Capital IQ.

Eaton Vance’s ETMFs will be competing with a plethora of passive index funds and ETFs from industry stalwarts and it is clear that both professional and retail investors love those passive products. Vanguard, the third-largest U.S. ETF issuer, proves as much. The Pennsylvania-based firm, founded on the notions investors love low fees and that most active managers are bound to disappoint, has seen almost $86 billion flow into its passive index mutual funds this year and $87.2 billion come into its passive ETFs. [Behind Vanguard’s ETF Asset-Gathering Dominance]

As S&P Capital IQ notes, some active Eaton Vance funds have already waged unsuccessful battles against passive ETFs.

For example, the research firm highlights the Eaton Vance-Atlanta SMID-Cap Core (EAASX), which is up 17.7% on an annualized three-year basis. That sounds nice, but that fund charges 1.25% while the iShares Core S&P Mid-Cap ETF (NYSEArca: IJH) has delivered slightly better performance with an annual fee of just 0.14%. [Broad ETF for Portfolio-Building]