DFA plots full ETF suite after large mutual fund conversion

Nearly $30bn of assets converted this week with $8bn more due in September

Dimensional Fund Advisors is looking to build on the $37bn of mutual fund assets it is converting to ETFs with a full suite of products, as experts predict a range of competitors will follow in its footsteps.

$637bn Austin-Texas based DFA converted four of its US tax-managed mutual funds into active transparent ETFs this week, after announcing the move in November. The quartet, which accounted for $28.6bn of AUM at the end of May, are the Dimensional US Equity ETF (DFUS), Dimensional US Core Equity 2 ETF (DFAC), Dimensional US Small Cap ETF (DFAS) and Dimensional Targeted Value ETF (DFAT).

DFA is also expected to convert two additional non-US market tax-managed mutual funds, representing $8.1bn of AUM, into ETFs in September.

Alongside its current three-strong $1.6bn ETF line-up, the conversions will see DFA move just outside the top ten of ETF issuers, with $38bn in assets, behind ARK Invest with $43.2bn but ahead of Global X with $34bn.

DFA’s tax-managed suite of funds was the obvious starting point when thinking of conversion, although some funds in this line-up are remaining as mutual funds, at least for now. These include the $5.9bn DFA Tax Managed US Marketwide Value Portfolio (DTMX).

“When we think about our future potential offerings, we’re looking at the tax line-up, we’re looking at the client needs,” said Nicole Hunter, Head of Capital Markets at DFA. “We definitely plan to extend our line-up and have a full suite of products. Other than the remaining two (non-U.S. market ETF’s), we haven’t publicly announced any other plans.”

A large motivator behind DFA conducting the conversion process was the “ETF rule” passed by the SEC in 2019 that allows ETFs that meet certain criteria to enter the market without delay of acquiring an order. It also allows the custom creation redemption baskets available for all ETFs.

“That’s been kind of a huge draw for a lot of issuers, we’ve seen a huge wave of small, active issuers enter the market,” said ETF.com Managing Editor Heather Bell.

DFA filed to convert the funds earlier in the spring in response to client demand for more ETF wrapper products, and is the largest firm so far to undertake a conversion process of this size.

“This firm is very innovative; they’re not afraid to go big if it’s the right thing to do,” Hunter said. “In fact, sometimes the right thing can be the harder thing, but if it is the right thing, we’re going to do it. I think this conversion is a testament to that innovation.”

It was no small feat to facilitate the conversions from a paperwork standpoint.

“We didn’t rush; we wanted to turn over every rock, dot every ‘i’ and cross every ‘t,’” Hunter added.

Bell pointed to Dimensional’s name recognition and said other would-be ETF issuers from the actively managed mutual fund side are going to be watching to see if the conversions are successful.

“I think it’s going to play a huge part in how they kind of roll out their own products if they do decide to enter the space,” Bell said. “They’ve already kind of re-packaged some of their existing strategies as ETFs, not as conversions, so we’ve got their basic core equity group are already represented in the market.”

Ben Johnson, director of global exchange-traded fund research at Morningstar, said many more firms will consider the conversion option more seriously now that a bigger player has successfully navigated the process.

However, Johnson added DFA’s case is somewhat unique, given that its fund range is sold through its own adviser network and the fact that the products in question were already being marketed for their tax efficiency.

“Narrow distribution means that the downstream logistical challenges of executing a conversion are minimized,” he said. “Specifically, investors in the funds need brokerage in order to hold ETF shares. This would be more complicated in cases where there were more direct/retail investors.”

Johnson continued, saying daily transparency isn’t a big concern for DFA as its strategies are broadly diversified, have low turnover, and their process is very transparent.

One other hurdle for mutual fund managers is the fact the retirement industry is generally not set up to allow for ETF investing, presenting a problem if some of your assets in retirement accounts.

While DFA is largely known for this transparency, Hunter would not rule out the possibility of the firm eventually entering the non-transparent ETF space.

“We’re always open to look at all investment types,” Hunter said. “I think it’s part of our responsibility to be aware of what is going on in the industry, understand how those vehicles are operating.”