However, a recent decision by the Securities and Exchange Commission to allow fund companies to create ETF share classes of traditional mutual funds is likely to lead to a flood of new ETFs on the market State highwayState Street Investment Management's fund management division has other ideas.
The ETF giant, which manages approximately $1.7 trillion in its SPDRs ETF family – including the oldest and most widely traded S&P 500 exchange-traded fund -, SPYand the largest gold ETF, GLD – sees the SEC's green light as an opportunity to bring a new ETF challenge to the retirement plan market.
In return, the company plans to adopt the SEC decision and offer mutual fund share classes of its ETF strategies in the vast U.S. retirement plan market that is normally closed to ETFs.
Anna Paglia, chief business officer of State Street Investment Management, said on CNBC's “ETF Edge” Monday that retirement markets that have not previously featured ETFs as options for core index funds, including the 401(k) and 403(b) markets, represent a $4 trillion opportunity that she estimates will be the focus.
Some of the benefits of ETFs, such as more efficient tax trading, may not be important to investors in tax-deferred retirement plans. The intraday valuation of ETFs — they trade in real time throughout the day, like stocks, as opposed to the one-time valuation of traditional mutual funds — has also been an issue for some plan sponsors. But its low fees and massive assets under management give State Street an edge when it comes to offering competitive portfolio offerings to investors and retirement plan sponsors.
“We now have $1.7 trillion in ETF assets,” Paglia said, explaining that the company can leverage its existing scale to create a more competitive offering regardless of share class. “The enemy of efficiency is fragmentation,” Paglia said.
In a recent Barron's editorial by Paglia explaining the company's thinking, she noted that while the tax efficiencies that attract many investors to ETFs cannot be replicated in the retirement plan market, the so-called “in-kind benefits” used in ETF management can result in lower costs and better performance over time for retirement investors.
“That's because when large institutions redeem ETF shares, ETFs are not forced to sell investments to raise cash like mutual funds are. Instead, ETF issuers can transfer securities directly to these large institutions, typically market makers or broker-dealers, through in-kind redemptions. By avoiding open market sales, this process helps reduce turnover and associated trading costs in the underlying portfolio – efficiencies that benefit investors of all classes of stocks come,” Paglia wrote.
State Street's largest ETFs
- SPDR S&P 500 ETF Trust (SPY)
Assets: $698 billion
Expense ratio: 0.0945% - SPDR Gold Shares (GLD)
Assets: $132 billion
Expense ratio: 0.40% - State Street SPDR Portfolio S&P 500 ETF (SPYM)
Assets: $95 billion
Expense ratio: 0.02% - Technology Select Sector SPDR Fund (XLK)
Assets: $95 billion
Expense ratio: 0.08% - Financial Select Sector SPDR Fund (45)
Assets: $52 billion
Expense ratio: 0.08%
Source: State Street
The SEC recently gave the green light to ETF share classes of traditional mutual funds with a filing from Dimensional Fund Advisors. The mutual fund industry is expected to adopt this new ETF regulation in droves. More than 70 fund providers have applications pending, and ICI, the fund industry's main trade group, recently told ETF Edge that it has been working with hundreds of fund companies to prepare to take advantage of the SEC's exemption.
However, the current government shutdown has halted any further action, including State Street's plans to offer ETFs as mutual funds in the bond market. If State Street Investment Management is able to move forward, the question becomes which ETFs can stand out in the 401(k) market. While greater trading and cost efficiencies can be achieved by trading across more than one share class, many core strategies in State Street's ETF series are already offered to retirement investors in traditional fund portfolio shares.
And in an asset management industry where ETFs and index funds from giants like Fidelity Investments and Vanguard Group have reduced fees to literally zero, economies of scale across portfolios are already crucial to competing for investor assets. Fidelity already offers four no-fee core index mutual funds. The expense ratio of Vanguard's record-breaking S&P 500 ETF (FLIGHT), which has reached an all-time high in annual inflows for an ETF, is three basis points (0.03%). State Street's SPYM, a new version of SPY, has an expense ratio of two basis points (0.02%).
But ETFs have become the vehicle of choice for many investors to access every type of market strategy, from core stocks to thematic stocks to increasingly smaller parts of the bond market, as well as alternatives such as precious metals and cryptocurrencies.
“Mutual funds are an opportunity for ETF-focused companies to meet investors where they are,” Todd Rosenbluth, head of research at VettaFi, said on “ETF Edge.”
He noted that State Street is not the only asset manager planning to create mutual fund share classes of ETFs, with F/M Investments planning a similar approach to benefit from the SEC decision.
Providing the world's largest gold fund at potentially lower cost in 401(k) plans comes at a time when many more investors are adding gold as a larger allocation to a traditional portfolio, often at the expense of bond funds. But given the existing low-cost stock and bond options at major mutual fund companies and retirement plan providers, Rosenbluth says State Street's greatest opportunities to stand out in the 401(k) market at the individual portfolio level beyond GLD may lie in its select-sector SPDRs, such as XLK and XLF, and newer alternative ETFs the firm has launched, such as SPDR Bridgewater ALL Weather ETF (ALLW) and SPDR SSGA IG Public & Private Credit ETF (PRIV), which offers retail investors access to portfolio strategies that are normally only available to institutional investors.
ALLW, a global multi-asset allocation fund, has hired Bridgewater Associates, billionaire hedge fund manager Ray Dalio, as a sub-advisor. PRIV was the first ETF with significant retail credit exposure to be approved by the SEC, although not without some controversy.
Paglia described the plans as less about marketing a specific strategy and more about creating a structure for State Street's fund business that can bring the best of the ETF structure to more markets. “ETF technology is the most efficient technology in this market, but ETF technology is not the right fit for everyone,” Paglia said on CNBC's “ETF Edge.”
“In my view, the fixed income industry is not benefiting from the innovations that the ETF industry is bringing to market and benefiting from,” she added.
To be sure, State Street is already a big player in the retirement market, ranking third overall in assets under management in “defined contribution only investments” (which are collected through other retirement platforms managed by third parties). State Street does not have its own defined contribution recordkeeping business similar to those of Fidelity, Vanguard and Empower. But when it comes to assets within retirement plan strategies, State Street trails only Vanguard and BlackRock (which operates the iShares family of ETFs), with over $800 billion and 19% annual growth in 2024, according to Cerulli Associates.
State Street has historically offered more collective mutual fund offerings than traditional mutual funds to the retirement market, and depending on the ETF strategies they align with mutual funds, Cerulli said there is a growth opportunity in the small and mid-market plan segments, which have historically had limited access to CITs due to their size.
The fragmentation cited by Paglia is due to the fact that there are many legal wrappers for portfolio strategies used in retirement plans, including mutual funds, target-date funds, unit trusts and ETFs.
“My IRA is invested in ETFs, but my 401(k) plan is not,” she said. “It’s not an ETF vs. mutual fund conversation,” Paglia said. However, she added that State Street could benefit from the size and scope of its ETF business as the SEC gives asset managers the ability to have different share classes as the government reopens. “We have the power of scale,” she said. “We also have the power of content because we have hundreds of strategies… and when you combine content and cost, you have something that could ultimately benefit investors.”
Correction: An earlier version of this article contained incorrect assets under management data for State Street's top SPDR ETFs due to an editing error.