SEC Proposes Rule Designed to Permit Certain ETFs to Operate Without an Exemptive Order and Adopts Amendments to the Liquidity Rule
On Thursday, June 28, 2018, the Securities and Exchange Commission (the “SEC” or the “Commission”) unanimously approved proposed Rule 6c-11
According to the SEC, ETFs registered with the SEC currently represent approximately $3.4 trillion in total assets and account for approximately 15% of total net assets managed by investment companies.
Proposed Rule 6c-11 would remove the need for an ETF provider to obtain exemptive relief prior to launching an ETF by standardizing the conditions to which certain ETFs must adhere. According to a statement made at the open meeting on Thursday by Dalia Blass, head of the Division of Investment Management, “[c]ontinuing exemptive orders for all ETFs no longer suits the size and maturity of [the ETF] market.” As a result, it is the Commission’s intention to help level the playing field by creating more regulatory consistency for investors, the Commission, and fund complexes.
While the proposal received unanimous approval, Commissioners Stein
I. Proposed Rule
As noted above, proposed Rule 6c-11 would permit ETFs that satisfy certain conditions to operate within the scope of the 1940 Act and come directly to market without the cost and delay of obtaining exemptive relief. Proposed Rule 6c-11 would provide exemptions for both index-based and actively managed ETFs, but would not by its terms establish different requirements based on whether an ETF’s investment objective is to seek returns that correspond to the returns of an index.
Proposed Rule 6c-11 would be subject to certain conditions. The proposed conditions include the following:
Transparency. Under proposed Rule 6c-11, an ETF would be required to provide daily portfolio transparency on its website. However, unlike under prior ETF exemptive orders, dissemination of an intraday indicative value every 15 seconds would not be required under the proposed rule.
Custom basket policies and procedures. An ETF relying on proposed Rule 6c-11 would be permitted to use baskets that do not reflect a pro rata representation of the fund’s portfolio or that differ from other baskets used in transactions on the same business day (“custom baskets”) if the ETF adopts written policies and procedures setting forth detailed parameters for the construction and acceptance of custom baskets that are in the best interests of the ETF and its shareholders. It is important to note that while some ETF providers may already have policies and procedures governing the construction of baskets in order to comply with the representations and conditions of their exemptive orders, these policies and procedures would not have been subject to the requirements that the SEC is proposing for custom‑basket policies and procedures under the proposal. For example, the proposal notes that the policies and procedures should detail the circumstances when the basket may omit positions that are not operationally feasible to transfer in kind.
Posting of a Published Basket. The proposal would require an ETF, at the beginning of each business day, to post on its website information regarding a published basket. This may come as a surprise to some ETF providers, as not all ETF providers currently provide this information on their websites. In addition, ETFs would also be required to maintain records detailing the composition of baskets, which would allow the SEC staff to review an ETF’s baskets as part of an examination.
Website disclosure. The proposed rule would require ETFs to disclose certain information on their websites, including (i) the ETF’s NAV per share, market price, and premium or discount, each as of the end of the prior business day; (ii) bid-ask spreads; and (iii) historical information regarding premiums and discounts. These disclosures are intended to inform investors about the efficiency of an ETF’s arbitrage process.
Recordkeeping. ETF providers would be required to preserve and maintain copies of all agreements with authorized participants.
To help create a consistent ETF regulatory framework, the proposal recommends rescinding exemptive relief previously granted to ETFs that would be able to rely on the proposed rule. SEC Chairman Jay Clayton noted at the open meeting that the Commission would “do so without placing a significant burden on existing ETFs to comply.” The proposal also recommends rescinding exemptive relief permitting ETFs to operate in a master-feeder structure due to the fact that very few ETFs currently utilize such relief.
Lastly, the Commission is proposing several amendments to Form N-1A to provide more useful, ETF‑specific information to investors who purchase ETF shares on an exchange. The Commission is also proposing that ETFs organized as unit investment trusts (“UITs”) provide the same information to investors on Form N-8B-2.
Comments on the proposal will be due 60 days after publication in the Federal Register. The SEC’s proposed Rule on ETFs can be found
II. Amendments to Liquidity Risk Management Rules
On the same day, in a 3-2 vote, the Commission also adopted certain amendments to the Liquidity Risk Management Rules (“Liquidity Rule”) which effectively rescinded the requirement under the Liquidity Rule that open-end funds publicly disclose aggregated liquidity classification data, and replaced it instead with a new requirement that funds disclose information about the operation and effectiveness of their liquidity risk management program in their reports to shareholders. This represents yet another modification of the Liquidity Rule, which requires fund complexes to implement liquidity risk management programs effective December 1, 2018.
Under new rule 22e-4, each open-end fund (other than money market funds and In-Kind Exchange‑Traded Funds
Under the amendments, funds would discuss in their annual or semi-annual shareholder report the operation and effectiveness of their liquidity risk management program. In addition, a fund would no longer be required to include such discussion in the fund’s management discussion of fund performance.
Furthermore, the amendments to Form N-PORT provide funds with flexibility to split their portfolio holdings into more than one classification category under certain circumstances. Finally, Form N-PORT will require that funds disclose their holdings of cash and cash equivalents not reported elsewhere on the Form.
The SEC’s amendment to the Liquidity Rule can be found