Money Market Funds
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Ajay Singh Apr 18, 2019
Kip Meadows (KP): I’m happy to do that. The business model, dating back to when we started the company in 1988, was to help investment advisory firms with portfolio managers who wanted a way to pull their smaller accounts together. Firms that might’ve grown, got to a certain size and said, “You know, we’ve just got too many of these smaller accounts and they need to be more efficient.” So we looked into various ways to pull accounts together using common trust funds and other types of vehicles such as limited partnerships; hedge funds didn’t really exist at that time. We decided that open-end, 1940-Act mutual funds were the best vehicle, certainly at the time, and they remain an excellent vehicle today.
So starting in 1988, we began helping firms organize their own mutual funds and then helping with the operations on an ongoing basis with things such as calculating the net asset value (NAV) and providing transfer agents to process the shareholder transactions. We also have an in-house legal team to help with the compliance and the fund administration process.
MutualFunds.com: What is the value that Nottingham brings to the table to help launch and manage mutual funds? Has that value proposition remained the same over time, or has it evolved?
KP: It’s just largely the same. If you were to tell me today that you wanted to start your own mutual fund, you could go about it one of two ways. You could start from scratch and file your own investment company and file your own prospectus to create one or more funds and you’d have to put up seed capital to do that. A new fund requires seed capital, and that way works fine. But it’s more expensive, it takes longer, and you don’t really know exactly when the SEC is going to give you approval so that you can sell your fund to the investing public.
The way we operate, and the value proposition we have – what the ETF industry calls a “White Label Provider” – it’s what we’ve been doing in the open-end fund business since 1988. We have our own investment company, so we can add your new fund to our series trust, our investment company, and it’s an additional portfolio. It can be done in about 120 days versus probably nine months to a year if you do it on your own. The cost is less, somewhere in the neighborhood of $50,000 versus probably $100,000 or more needed to do a new one. We have already put the seed capital in, so that’s not a requirement, so there’s a savings of $100,000 right there.
So we make it easier, quicker, less expensive, and take away the headache of it all. You don’t have to create anything, and you don’t have to learn a new business model.
KP: From the launch process, they are very similar. Up until currently, it hasn’t really changed yet. First, an ETF requires that you get an exemptive relief to allow you to create an ETF. That is a different type of structure; it’s slightly different than a mutual fund. So, the SEC requires that you get exemptive relief for that difference. The SEC has proposed that the difference is going to be minimal. Moreover, the SEC is going to standardize some of the processes, further reducing the differences.
But up until now, if you didn’t have exemptive relief, that added probably a year or more to the process. This made what we have to offer as a White Label Issuer even more important, because we already had all of the exemptive relief in place that had gone through that process.
MutualFunds.com: We see that thematic investing is big with ETFs, and you see ETFs focused just on AI, blockchain or robotics, which is not the case with mutual funds. Why do you think that is?
KP.: I think part of that is the investment structures. You talk about AI or blockchain, or whatever it might be, and they fit rather well into an index. Open-end funds, historically, have been actively managed, and that’s the value proposition you have with a portfolio manager making the investment decisions.
With ETFs, most of that industry kind of started out with index funds. So, to have funds that are very similar, either in what those companies do or the industry or whatever it might be, it fits very well into an index, which is how ETFs kind of came into being. In a way, this has been the major differentiating point so far.
KP: ETFs had virtually no actively-managed strategies over the first decade since they came into existence. There were a few actively-managed strategies out there, but there was not a widespread market acceptance of actively-managed ETFs.
I’ve seen that change. So, we’re having more conversations with advisors who want to do an actively-managed investment strategy in an ETF, and that’s just within the last year. I think even more so in the last six months, probably. So, I think that will continue to accelerate.
MutualFunds.com: Are you also seeing focus on reducing the fees from advisors?
KP: There’s a lot of fee compression in the entire industry. People identify ETFs with lower fees. And in actively-managed strategy, that’s probably prohibited some advisors from adopting an ETF for an active strategy, because nobody really knows what the market will be for active strategies and what those fee structures should look like.
But I think there’s some increasing acceptance. I’ve read reports that show the fee compression has slowed down and kind of leveled out. It’s not a continuing downward pressure, it’s kind of bottomed out. It can’t go much below zero. People that have active strategies are recognizing that there’s probably going to be a little bit higher fee to manage active strategy because you’ve got someone using their brain power, not just a computer making the selection. There is somebody who’s looking at the analytics and the fundamentals of the securities in the portfolio, and people recognize that there can be value in that – and there should be value in that.
Learn about fulcrum fees here.
MutualFunds.com: Just last month, we saw the launch of an ETF that will pay you 50 cents for every thousand dollars invested until the fund grows to a hundred million dollars, and then would charge you some expense ratio from the second year on. How far do you see such trends going, or do you think these are runoff cases, or are we testing the boundaries of what’s sustainable to attract fund flows?
KP: That’s a great question, and I think marketing is all about getting somebody to pay attention. Fee structures are really part of marketing, getting the investors to pay attention. When you get right down to it, though, if you save five basis points in an expense ratio, you can look at it on the flip side: how much of additional investment return do you have to have in order to make up that difference? And it’s not that much. There’s only five basis points, so investors need to look at the net return, net after expenses, and not just the expense ratio. We can set up a zero expense ratio in all of the investments in cash, and it’s not going to have any return. The expenses will be zero but it’ll have no investment return.
To answer your question, I think a lot of that is gimmicky, but it appeals to some people and will attract the assets from some investors – and that’s just the way the world works.
KP: I think they can play a very important role. I often talk about why there’s not that many of them out there. I think interval funds are a brilliant invention.
When you have relatively illiquid investments such as real estate or precious metals in a traditional mutual fund, the portfolio manager has to retain a cash balance to meet the potential redemptions from shareholders. Holding onto cash or cash-equivalents dilutes fund returns, so that is unattractive.
With an interval fund, you can only redeem periodically at certain intervals, every 30 days, or quarterly, whatever the prospectuses might dictate, which gives a portfolio manager much more flexibility to be more fully invested and give the portfolio manager a warning of when they need to sell assets to meet redemption requests.
So I think closed-end interval funds can be very valuable, providing access to different asset classes that might not have been available before or because of the structural limitations.
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MutualFunds.com: How important is the role of investor education? Several surveys indicate that money or investing is a top concern for individuals, and we all just still feel there’s so much to do there.
KP: I don’t think you can overstate the value of financial literacy and investor education. Financial literacy is just the very bottom line, I guess, understanding dollars and cents. The more sophisticated the investment markets become, the more there is need for the investor to be educated about what alternatives they have. That’s where you come into play and there’s data available on the internet and various publications in the media that’s very valuable to the public. The public is much more educated than they were 30 years ago, for sure, it’s because of that. There’s still value, I think, in having professional advice, somebody that pays attention to it every day. I think that goes back to our discussion a few minutes ago, the investing public has kind of been taught to focus on the expense ratio and, yeah, that’s a part of it, but is that the only piece of information you need to decide what investments to enter into? Absolutely not.
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Finally, he stressed upon the role that interval funds can play in an investor’s portfolio and, also, on the importance of investor education.
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Money Market Funds