The SEC last week released a request for comment on the listing and trading of Exchange Traded Products (ETPs), a broad class of products that includes ETFs, Exchange Traded Notes, and certain pooled investment vehicles that are not required to register under the 1940 Act (such as those that physically hold a precious metal). The SEC explains that the request is driven by the explosive growth of ETPs since the listing of the SPDR S&P 500 ETF in 1992. The release notes that there were 1,664 ETPs listed in the US as of the end of 2014 with a market capitalization of more than $2 trillion. Additionally, ETPs have also broadened in terms of investment strategies from simple index tracking to current ETPs that are actively managed, leveraged, and/or track volatility, to name a few. Under the current process, issuers must first obtain several exemptions from the Commission before ETPs can be listed or traded. As a result, this growth and breadth of the products directly correlates to an increase in the number of requests for exemptive relief and rule changes and an increase in the complexity of those requests.
The release seeks comments to “help inform its review of the listing and trading of new, novel, or complex ETPs, including requests by ETPs for exemptive and no-action relief under the Exchange Act and filings by exchanges to adopt listing standards applicable to ETPs.” Additionally, the Commission is seeking comments on the ways in which brokers market ETPs and the use of ETPs by investors. The release contains nearly 18 pages of questions in the following general categories in addition to a catchall “other” category:
• Arbitrage and Market Pricing;
• Exchange Act Exemptions and No-Action Positions;
• Exchange Listing Standards; and
• Broker-Dealer Sales Practices and Investor Understanding and Use of ETPs
While ETFs are governed by the 1940 Act, the request for comment is focused on listing and trading issues only – and does not include issues under the 1940 Act. The Commission has previously sought comment regarding ETFs in particular, most recently in 2008 when it proposed a rule that would permit certain ETFs to operate without first obtaining exemptive relief. This request, however, focuses on the broader universe of ETPs.
The SEC also requested public comment last week on a proposal submitted by NYSE Arca to adopt “generic listing standards” for active ETFs in order to eliminate the need for the exchange to file a proposed rule change each time a new actively-managed ETF is listed. For Passive ETFs, the exchange does not need to file a rule change with each new listing because the SEC has approved the exchange’s “trading rules, procedures and listing standards” for the product class and the exchange has a “surveillance program for the product class.” Arca’s request would implement the same process for active ETFs and streamline the listing process for such products.
The SEC is requesting general comments on the listing standards proposed, but also specific comments on the use of derivatives in active ETFs. Arca had proposed restrictions for active ETFs listed on the exchange that would prevent them from holding more than 60% of the value of their underlying portfolio in over-the-counter derivatives and prevent them from holding more than 20% of the value of their underlying portfolio in non-centrally-cleared over-the counter derivatives. In the release the Commission queries whether the limits proposed are sufficient to facilitate effective arbitrage of the funds and whether sufficient pricing information exists for the derivatives.