New innovations in the exchange-traded fund industry can come at a cost to investors under extreme circumstances.
ETFs that involve increasingly complex derivatives and less transparent markets may be in uncharted territory when it comes to a severe downturn, said Jamie Harrison of MFS Investment Management.
“These are things to keep an eye on as volatility increases,” the firm’s head of ETF capital markets told CNBC’s “ETF Edge” this week. “As innovation continues to rapidly increase within the ETF wrapper, [it’s] This is definitely something we advise our clients to take seriously… Lack of transparency can definitely be an issue if we start to see significant declines. ”
His company was founded in 1924 and is credited with inventing open-end mutual funds. Last year, ETF.com named MFS Investment Management the Best New ETF Issuer.
“It’s important to do due diligence on your portfolio,” he said. “Having a deep bench of subject matter experts working with the A team on the corporate, street and liquidity provider side with deep partnerships.” [are] It’s super important. ”
Is liquidity the real issue?
Mr Harrison suggested that the real issue was liquidity, especially during a sharp sell-off.
He added: “We’ve all seen the news and headlines about the possibility of private credit ETFs. That situation becomes even more uncertain.” “That’s up to the advisors and investors.” [and] We encourage our clients to look inside and engage with their publishers. ”
He noted that investors will have to ask some difficult questions.
“What happens with a 20% drawdown? How does this liquidity facility work? Can you get in? Can you get out? And even if you can, can you get out at a price close to NAV? [net asset value]and what is the infrastructure of your store in terms of managing that consideration to me,” Harrison said.
Amplify ETF’s Christian Magoon also worries that these new ETF strategies could survive a monster drawdown. He cited private credit as a red flag.
“If an ETF owns private credit, I think it’s worth considering what the liquidity criteria are and how that ETF is trading, because there should be some mismatch between the pace of trading of the ETF and the underlying assets,” the company’s CEO said in the same interview.
Magoon also highlighted potential issues surrounding equity-linked bonds. These bonds offer the security of a bond, while also providing the potential for higher returns by being tied to stocks and stock indexes.
“These companies could be potentially stressed due to redemptions and potential credit risk. This is also kind of a unique derivative,” Magoon said. “We will carefully consider ETFs that issue equity-linked bonds in the event of large-scale outflows or impacts related to private credit or the banking system.”
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