Monday, September 11, 2017

SEC hosts dialogue on exchange-traded products

By Jacquelyn Lumb

The SEC and New York University hosted a dialogue on exchange-traded products during which academics, practitioners and regulators discussed the effect of ETPs on financial markets, their implications for investors, and the future of ETPs. Commissioner Michael Piwowar opened the dialogue with some background on ETPs and their enormous growth since their introduction in 1993. Today, there are nearly 2,000 ETPs in the U.S. with over $2.7 trillion in investments. ETPs are among the fast growing asset classes, he advised.

Piwowar characterized ETPs as one of the most significant financial innovations in recent decades. They allow both institutional and retail investors to tailor their portfolios to take advantage of changing market conditions that arise throughout the day, he explained. One of the panelists described ETPS as the most democratic investment available because anyone with a brokerage account can access a broad range of asset classes and the costs are often very low.

Piwowar noted that ETPs are popular with retail investors because they provide a way to increase their portfolio diversification at a low price, while institutional investors appreciate the ability to lend shares, sell them short, and trade them on margin. He noted that ETPs constitute about 30 percent of all trading volume, which reflects active trading by both retail and institutional investors every day. Given the importance of this market, Piwowar said it is critical that the SEC identify emerging issues that may affect investors and market participants.

Piwowar noted that the industry and academics have raised concerns about ETPs’ effect on the value of the underlying securities and on the quality of the financial markets, and whether the acceleration of index investing is leading to reduced capital market efficiency. The evidence is mixed, he said, with some studies showing that securities prices reflect available information more efficiently when they are included in ETPs, while others suggest that prices of securities with stronger ETP ownership are more volatile, reflecting increased "noise" rather than information.

The SEC has seen an increase in the amount of research about the effects of ETPs on capital formation, market efficiency, and investor protection, according to Piwowar, but he called for more discussion and discovery such as the NYU dialogue. Academicians from Ohio State University, New York University, and the University of Maryland discussed the available research on ETPs’ effect on the financial markets, followed by a panel discussion on their implication for investors led by Investor Advocate Rick Fleming. The investors’ panel agreed that education is paramount. Investors must read the prospectuses and they must understand what they are reading, they advised.