Garrett Stevens & Rich Malinowski - Exchange Traded Concepts

11/17/24 • 25 min

In a recent episode of “Behind the Ticker,” Garrett Stevens and Rich Malinowski from Exchange Traded Concepts (ETC) discussed the firm’s unique position as the first white-label ETF issuer and its role in supporting clients from concept to launch. ETC, which has been operating for 13 years, has launched over 100 ETFs with a combined $7.5 billion in assets under management. The firm provides a turnkey platform for ETF issuers, handling everything from regulatory filings and portfolio management to marketing and website development, while also offering individual services for established funds.
Stevens highlighted a growing trend in the ETF industry: wealth management firms launching their own ETFs based on existing strategies. This shift allows advisors to offer tax-efficient, liquid, and operationally streamlined investment vehicles to their clients. He emphasized that these advisor-driven ETFs are often not marketed publicly but are used as tools to enhance the client experience and differentiate wealth management firms from competitors.
The conversation also touched on the growing popularity of actively managed ETFs, which now account for about 75% of new launches. Stevens explained that while thematic and passive ETFs dominated early growth, the focus is now shifting toward active strategies that allow for sector rotation, cross-asset class exposure, and unique management styles. He noted that active ETFs require a longer runway for success, as they often depend on performance to attract investors, contrasting with the quicker adoption of thematic passive products.
Rich Malinowski added insights on mutual fund-to-ETF conversions and semi-transparent ETF structures. He explained that while mutual fund conversions have slowed due to operational challenges and intermediary resistance, they remain an area of interest. Additionally, semi-transparent ETFs face hurdles related to their limited visibility for market makers and custodians, but Malinowski expects gradual acceptance as the industry adapts to these innovative products.
Both Stevens and Malinowski emphasized the importance of preparation and infrastructure for ETF issuers. They advised aspiring ETF managers to secure sufficient assets at launch, target a $30 million breakeven point, and build strong relationships with service providers to ensure operational success.

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Brett Eichenberger - Cohen & Co.

In a recent episode of “Behind the Ticker,” Brett Eichenberger from Cohen & Company discussed the intricacies of auditing in the ETF and mutual fund industry. Eichenberger, based in the firm’s Cleveland office, has worked his way up over a 19-year career with Cohen & Company, which now audits over 1,800 registered funds, making it the fourth-largest auditor of registered funds in the U.S. and the second-largest in the ETF space. Eichenberger emphasized Cohen’s role in maintaining public trust through transparency and strict regulatory compliance, working with a range of investment products including ETFs, mutual funds, closed-end funds, and interval funds.
One of the central differences in auditing ETFs versus mutual funds, Eichenberger explained, lies in the valuation of securities. ETFs report returns on both NAV and market value bases, due to their trading on secondary markets, whereas mutual funds focus solely on NAV. Additionally, ETFs rely on authorized participants for capital activity through in-kind creation units, which introduces unique audit considerations, especially in managing the in-kind exchange of securities.
Eichenberger highlighted several key areas of focus in ETF audits, such as ensuring accurate valuation, particularly in complex portfolios that may include derivatives, foreign securities, or illiquid assets. For products like ETFs, Cohen & Company pays close attention to maintaining diversification standards and testing qualified income, which is essential for regulatory compliance. Eichenberger explained how Cohen’s audit teams perform regular assessments to verify all positions are accurately valued, confirming assets held in custody and ensuring that clients’ funds meet regulatory diversification requirements.
The discussion also touched on the impact of technology, including advancements in data-driven auditing that allow Cohen to move toward 100% testing of transactions, improving accuracy over traditional sampling methods. Eichenberger shared that the firm’s adoption of automation enables more efficient audits, allowing for better oversight and faster processing.

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Raymond Holst - Practus

In a recent episode of “Behind the Ticker,” Raymond Holst from Practus LLP discussed the intricacies of 351 exchanges and their relevance to the ETF industry. Holst, a tax attorney with over 20 years of experience, joined Practus in 2023, bringing extensive expertise in financial products and taxation. Practus, a fully virtual law firm with attorneys across the United States, specializes in ETF and mutual fund markets, offering tailored legal and tax solutions.
Holst explained that a 351 exchange refers to a provision in the Internal Revenue Code allowing for the transfer of property into a corporation in exchange for shares without triggering immediate tax recognition on built-in gains. This mechanism is particularly useful for asset managers looking to convert separately managed accounts (SMAs) or private funds into an ETF wrapper. The process enables investors to transfer diversified securities portfolios into an ETF while maintaining their original tax basis and avoiding taxable events.
Key requirements for a successful 351 exchange include maintaining at least 80% ownership in voting and value by transferors post-exchange and adhering to diversification rules. Holst elaborated on the 25/50 diversification test, which ensures that no single security exceeds 25% of the portfolio and the top five securities do not exceed 50%. These safeguards are essential to comply with tax regulations and ensure the exchange qualifies under the 351 provision.
Holst emphasized the importance of partnering with experienced professionals for 351 exchanges, noting the complex coordination required among custodians, fund administrators, and legal advisors. While the process is tax-efficient, it involves significant logistical work, particularly in transferring tax information and establishing proper valuations. Once completed, however, ETFs formed through 351 exchanges operate like any other ETF, offering investors liquidity, marginability, and tax advantages.
For asset managers considering launching an ETF using a 351 exchange, Holst highlighted the long-term benefits, including improved tax efficiency and operational flexibility.