Mutual Funds Are Nothing If Not Persistent, But…

Welcome to Deconstructed, a weekly newsletter from Financial Advisor IQ that breaks down news and perspectives on portfolio construction.

Mutual funds are declining in popularity with financial advisors – we've heard this. But they still have a lot going for them, and some (relatively speaking) newfangled products like exchange-traded fund share classes could even breathe new life into forgotten strategies. Hey, we wrote about those ETF share class things a while back!

But new data shows that one-third of advisors remain confident that mutual funds will at least keep their market share.

They've got staying power, and certain effective strategies you can only get in a mutual fund wrapper, one advisor wrote in response to an Ignites Research survey fielded from April 24 to June 10.

Another said clients have big unrealized capital gains and thus "will not liquidate."

Still, more than half of 149 advisors surveyed think traditional mutual funds will dwindle as a share of clients' investment portfolios, with 10% predicting they will disappear entirely, wrote Melat Kassa for Financial Advisor IQ's sister publication Ignites.

Cost and structure do these century-old products no favors. One advisor wrote that that mutual funds are "expensive and inflexible."

To adapt to changing client preferences while retaining existing, fund families tried various product tweaks in recent years, such as mutual-fund-to-ETF conversions. Hey, another past Deconstructed topic!

But converted funds have hardly seen widespread success in attracting new sales to date.

Optionality

ETF share classes of mutual funds, on the other hand, provide a more streamlined alternative that lets investors move between share structures within the same product (and they're cheaper for managers).

And that flexibility appeals to nearly three-quarters (72%) of advisors who told Ignites they are keen to see ETF share classes of mutual funds they already use or would consider using them if they were available. This indicates a strong interest in maintaining the investment strategies they already know while enjoying the flexibility of an ETF.

Read more about the findings of the Ignites Research survey here.

Regulators Gonna Regulate

So, at this point, numerous asset managers have asked the Securities and Exchange Commission for permission to roll out a "Vanguard-style" ETF share classes of mutual funds.

Firms including Dimensional Fund Advisors, Fidelity and AllianceBernstein, and more recently, Allspring, Franklin Templeton, Principal and Charles Schwab, have asked the SEC for share-class relief that only Vanguard up to this point has been able to enjoy.

Vanguard gained SEC approval to offer ETF share classes of mutual funds in 2000 and patented the structure in 2003, according to K&L Gates. But its patent expired in May last year.

Vanguard offered ETF share classes of index mutual funds, but many of the managers now seeking similar SEC exemptive relief would roll out ETF share classes of actively managed funds, regulatory filings indicate.

The multi-share-class structure can reduce operational costs, because the bigger the asset base, the more expenses get spread around. The ETF share class's in-kind creation and redemption process also brings tax efficiencies.

Fund executives are "split" over whether the SEC, which has a lot of other things on its plate right now, will ultimately approve the proposed fund structures, said Daniil Shapiro, director of product development at Cerulli Associates.

There are economic and operational concerns, too, and you can read all about those here.

Keep Reading...

• More, Please! Three in 4 FAs Want Access to ETF Share Classes
• Four More Firms Seek Multi-Share-Class Structure
• What Will It Take to Get ETF-Shares Approved? Patience

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