An ETF pioneer warns against excesses in the industry

Former PowerShares executive says the exchange-traded fund world includes “some really ill-conceived ideas”

By Trevor Hunnicutt

May 29, 2015 @ 12:01 am EST

An unlikely source is making the case that there are too many “ill-conceived” exchange-traded funds.

Ben Fulton is an improbable messenger because he was one of the early proponents of smart beta, the non-traditional benchmark indexing that underpins a growing number of funds. And, after a bit of a hiatus from the industry's epicenter, the former managing director of global ETFs at Invesco PowerShares is back to launch his own suite of funds.

But Mr. Fulton said the industry is going to have to reckon with a few ETF closures and growing pains as more products come to market. One hundred seventy six ETFs were launched last year, nearly 14% of the market by number of funds, while 59 shut down, according to the Investment Company Institute, the mutual fund industry's trade group.

“There's some really ill-conceived ideas out there that probably are not viable in the long run,” said Mr. Fulton. “There are some products that have been created that are just trying to capitalize on smart beta but they're not really capitalizing on what are the needs of the marketplace.”


Mr. Fulton, now 53, was one of the early proponents of an industry that's drawing a growing share of media attention and money away from other investment vehicles such as mutual funds. He helped Nuveen Investments Inc. develop its would-be ETF line in the late 1990s and early 2000s.

Mr. Fulton went to Claymore Securities Inc., which eventually would start ETFs and be sold to Guggenheim Partners, before re-joining PowerShares. He oversaw PowerShares' development of scores of novel ETFs, all of which helped it distinguish itself from and compete with other large ETF providers such as iShares and State Street Corp.

By the time it was purchased in 2006, by what's now known as Invesco, PowerShares had accumulated $3.5 billion in assets. Mr. Fulton took over the firm's day-to-day management in 2009, before leaving the firm in 2013. By then, PowerShares managed nearly $80 billion.

Ben Fulton Eric Unger


Now he's back to the ETF industry in what he hopes will be a big way. His firm, Elkhorn Investments, on Wednesday launched its first ETF. The firm's investors include Tom Dorsey, co-founder of investment advisory firm Dorsey, Wright & Associates.

Their first fund, the Elkhorn S&P; 500 Capital Expenditures ETF (CAPX) buys 100 S&P; 500 companies whose long-term investments, or capital expenditures, appear to result in increased sales.

The methodology tilts away from industries, such as consumer staples and health care, that are considered more sensitive to rising interest rates. The fund also hits the market at a time when the ways in which companies use their cash has come under increased scrutiny as an increasing share goes to paying dividends and buying back their stock rather than in making long-term investments.

The fund joins a growing trend among ETFs that attempt to beat the market — the basis of popular strategies from Research Affiliates to WisdomTree Investments Inc. and, yes, PowerShares. Last year, $1 of every $4 that moved into ETFs went into a category Morningstar Inc. calls “strategic beta” -- meaning that the funds try to beat the market by weighting stocks based on things like dividends or valuations. Some other "smart beta" funds try to beat the market by limiting volatility.


But with the industry's growth could come some creative destruction, according to Mr. Fulton. He welcomes it. “I'm a capitalist,” he quipped.

In January, the Financial Industry Regulatory Authority Inc. said in a letter outlining its regulatory priorities that it plans to focus on smart beta. The regulator said it was an “open question” how the funds would perform in “different market environments going forward.”

But Mr. Fulton said the development of smart beta has been good. It allows investment advisers to take charge, and provide the active overlay, while using cost-efficient underlying products, Mr. Fulton said.

For his own business, the challenges may be considerable.

BlackRock Inc.'s iShares plans its own capex ETF. And an effort by another early ETF pioneer, Lee Kranefuss, to expand the European ETF brand Source to America so far has fizzled. (A spokeswoman did not return a request for comment.) The firm closed its only fund last month.

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