The new venture appears to be the Boston giant's long-awaited foray into exchange traded funds but some details are still being carefully guarded

September 17, 2012 — 4:56 AM UTC by Kelly O'Mara


It’s official: Fidelity is launching a major new business line under a new brand, has brought in a ringer to lead it — and put it all in a city far from Boston.

SelectCo appears to be an attempt on Fidelity’s part to catch a third wave of niche interest in exchange-traded funds after having missed the first two. It is to be headed by ex-State Street Global Advisors luminary Anthony Rochte, who brings an in-depth knowledge of ETF products. State Street is the second-biggest ETF provider, with 40 ETFs and nearly $60 billion in those funds. See: Coming from behind, Vanguard is gobbling up ETF market share.

Though Bloomberg has reported on the company’s efforts, this is the first time that Fidelity has acknowledged the new division and confirmed its name.

But, Fidelity is declining to disclose the exact mission of SelectCo, saying only that it will focus on new options in sector investing, leaving analysts speculating that the only new options in sector investing — and certainly the only niche that makes sense for Fidelity — is actively managed ETFs in sector investing.

“SelectCo” is not a brand name, but a temporary designation for the unit, only used internally at Fidelity. It is in the early stages of building this new division and may consider a different name in the future.

Jim Lowell: If you're going to enter this party late, you better figure out a niche to catch the second or third wave.
Jim Lowell: If you’re going to
enter this party late, you better
figure out a niche to catch
the second or third wave.

Why Denver?

Fidelity sat out the first ETF gold rush in the late 1990s and opted not to jump on the bandwagon in the middle of the past decade as price wars drove down fees. Now, Fidelity is banking on advisors looking for performance — not just cost-savings — in ETFs and is hoping it can deliver that by cloning some of its Select line of sector mutual funds to create actively managed ETFs — at least that’s what Jim Lowell, one of the foremost experts on Fidelity, thinks.

“If you’re going to enter this party late, you better figure out a niche to catch the second or third wave,” says Lowell, editor-in-chief of Fidelity Investor and partner and chief investment officer of Advisor Investments, a Newton, Mass.-based RIA. See: Criticism of ETFs is based on fear more than factual basis: columnist.

Fidelity, though, won’t say exactly whether its new options in sector investing will be ETFs or something else.

“At this time, we are not focused on specific products or investment vehicles, but rather on how we best position Fidelity to further develop its sector investing capabilities in a manner that will best meet the needs of our clients,” says Adam Banker, a Fidelity spokesman.

But Lowell points out that Fidelity wouldn’t have hired Rochte away from State Street six months ago to head up the new division unless it wanted to take full advantage of his knowledge of ETFs.

Paul Weisbruch: I don't think they would have waited this long to give it a half-hearted go.
Paul Weisbruch: I don’t think they
would have waited this long to
give it a half-hearted go.

Rocky mountain high

“You don’t hire an ETF quarterback if you’re not going to throw an ETF ball,” says Lowell.

On the other hand, headquartering SelectCo in Denver might give the impression that the company is distancing itself from this ETF experiment.

Banker responds to this speculation by noting that the Denver office is in keeping pace with Fidelity’s other offices around the world and that the firm will be adding new positions and staff to the Denver location.

Lowell says although Denver is a hotbed of technology talent and financial services, he’s still not sure why exactly Fidelity would pick that location.

“Maybe Tony Rochte is a diehard Broncos fan,” jokes Lowell.

Rochte declined to comment for this article.

Happy on the shelf?

Fidelity actually got into the ETF business back when the product first came onto the scene in the 1990s, says Lowell, “but, they stopped with the one they started with.” And, then, he says, it miscalculated just how much interest there would be in the product.

There are now 1,400 ETFs industrywide, representing nearly $1.5 trillion assets, and Fidelity has been left largely on the sidelines. In the last few years. Lowell speculates, Fidelity has seen a missed opportunity but wasn’t interested in engaging in an ETF price war to see how low it could drop fees just to attract market share.

Fidelity did, however, file for exemptive relief — essentially filing an application to sell ETFs — with the SEC a few years ago. And, then it sat on it.

“They filed for shelf space, knowing ETFs were on the rise,” says Paul Weisbruch, vice president of ETF/options sales and trading at Street One Financial LLC. “You might as well throw your hat into the ring, but don’t spend millions until you have a product.”

Now, Fidelity may be thinking that it has that niche product in actively managed sector ETFs.

Noah Hamman: It's almost like adding a new share class.
Noah Hamman: It’s almost like adding
a new share class.

New product line

As Banker is quick to point out, Fidelity has one of the “largest lineups of actively managed sector funds,” primarily in its Select line of funds. Lowell agrees that Fidelity has been a force in sector investing with a “phenomenal quiver of sector arrows.”

But, when it comes to adapting those arrows to sector ETFs, Fidelity was in danger of being left behind yet again.

Dan Dolan, senior vice president of Sector SPDR, says sector ETFs are “a mature product in the ETF space.” When Sector SPDR launched its first sector ETF in 1998, it was just the 25th ETF product. Now, there are hundreds of sector ETFs, he says. Sector SPDR, itself has more than $50 billion in sector ETF assets, with Vanguard and iShares each accounting for about another $10 billion. See: Coming from behind, Vanguard is gobbling up ETF market share.

This means that to make a dent in the market and compete, Fidelity will have to offer something different. It seems to be hoping, Weisbruch and Lowell speculate, that actively managed ETF versions of its Select sector funds will give advisors something new to bring to ETF-hungry clients. Lowell argues that the market hasn’t really seen “truly expert, actively managed sector fund ETFs with a whole range of products.”

Money magnet

Actively managed ETFs are still a very young product and offer a larger opportunity for someone new to step in, says Weisbruch. Fidelity filed with the SEC for the injunctive relief application needed to market the products and was given the green light by the commission three years ago.

Now the question is: Did Fidelity wait too long?

“It’s not too late, because they’re actively managed,” says Noah Hamman, CEO of AdvisorShares Investments LLC, a pioneer in actively managed ETFs. “It’s almost like adding a new share class.”

Weisbruch agrees that the actively managed arena is less crowded than traditional ETFs, and a big player could step in and gain a large portion of the market. But he thinks Fidelity still may have missed the moment.

“They did wait too long,” says Weisbruch. He points to other late entrants, such as Russell Investments, for instance,which had a number of closures from its ETFs after they failed to attract assets. And Scottrade announced in August that it was liquidating its FocusShares ETFs because of a lack of assets. “We’ve seen significant closures,” Weishbruch says. See: How Russell is faring since joining the competitive ETF party with an all-star ex-Barclays crew.

Lowell argues, however, that advisors are looking for better performance and that actively managed sector ETFs may be able to address that issue.

Adam Bold: The world doesn't need more ETFs, but that's irrelevant.
Adam Bold: The world doesn’t need
more ETFs, but that’s irrelevant.

Fidelity may not even have to do anything particularly exciting or new to fill that gap, says Adam Bold, founder of The Mutual Fund Store. “I don’t think they have to be cheaper or better or revolutionary to attract a lot of assets,” he says. “They’re just going to get money, because they’re Fidelity.” Schwab may have had a similar view a few years ago when it jumped in to ETFs. See: 10 reasons why Schwab’s move into ETFs may be an even bigger deal than it appears.

Going all-out

But Fidelity will not actually be capitalizing on the Fidelity name, as the new division is called SelectCo, though Banker says that could change. Weisbruch speculates that the different brand name may be an attempt to avoid having difficult conversations with advisors who are already purchasing Fidelity mutual funds at higher fees. But that strategy may backfire, says Weisbruch, who points out that Scottrade’s FocusShares, the rough equivalent of SelectCo, failed, perhaps because people never quite understood that they were dealing with Scottrade.

Jason Lahita, managing partner at Los Angeles-based Financial Communications Partners, speculates that Fidelity is putting SelectCo “under another brand so it is arm’s length from previous positioning on ETFs, as well as previously failed efforts.”

But while Fidelity may be playing a close hand when it comes to SelectCo, Weishbruch is pretty sure the firm will go all out. “I don’t think they would have waited this long to give it a half-hearted go,” says Weisbruch.

The new division will likely unveil new ETF versions of its Select funds in the next year or so, hoping to cash in on advisors’ interest in ETFs before someone else does, he adds.

The level of that interest remains to be seen. Ken Weber, an advisor who uses just Fidelity funds, says he actually is unlikely to use any new ETFs from Fidelity. He understands why the company wants to get in on the business — “They’re feeling left out of the party,” says Weber.

But he’s been happy with the current Fidelity funds and feels that it’s often advisors with less expertise who want to stock up on ETFs. See: How two RIAs succeed by using only Fidelity funds — but not without weathering criticism about closing their own architecture.

Bold agrees that there may not be a need for more ETFs, but says that as long as they’re an option, advisors are going to want them. And Fidelity will feed that desire.

“The world doesn’t need more ETFs, but that’s irrelevant. People want to buy them,” he says.

Mentioned in this article:

State Street Wealth Manager Services
Asset Custodian
Top Executive: Marty Sullivan

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ETF Industry said:

September 18, 2012 — 1:40 PM UTC

Brooke, agree that there was a filing in December 2011. My question was on the statement in the article indicating there was another filing by Fidelity with the SEC: “a few years ago. And, then it sat on it.” I’ve checked all of my sources and have only found the filing they did in the 1990’s and 2011, both for passive ETFs. If there was a filing a few years ago, can you send the link to Edgar? I’d like to review it.


Paul Weisbruch said:

September 18, 2012 — 1:25 AM UTC

“ETF Industry” feel free to contact me at any point to discuss. or 855-713-3837. Opining in a public forum on content important articles that involve legal/SEC/exemptive relief issues/lawyers/and compliance is rarely productive.


Stephen Winks said:

September 17, 2012 — 6:58 PM UTC

The obvious opportunity is not yet another ETF fund family, but taking a chapter out of DFA’s book (which is attracting capital like mad, out raising the industry’s largest load funds) is client specific rather than product (investment mandate specific) advisory services, where SelectCo utilizes extraordinary intellectual capital at its disposal to build client specific portfolios. Portfolio construction prowess is directed to each client not a generalized abstract investment mandate limited by prospectus.

The average broker’s portfolio generates 4.3% in a 15.9% market. SelectCo can materially improve on that.

Importantly, the solution may not be ETFs, but model portfolios (real time manager buy/sell research with out account administration services from the manager) which cuts 100 bps plus out of portfolio construction, facilitates real time data management not possible in a mutual fund, eliminates investment minimums, through overlay management facilitates expert technical competency in the broker managing complex values like tax efficiency, transactions cost, etc, which are beyond the capabilities of the broker and advisor, and introduces the real time management of dataand transparency required for continuous, comprehensive counsel necessary for fiduciary standing—not possible in a mutual fund.

Justin Vantil took this capability which is the threshold introduction to modernity in portfolio construction to Morningstar several years ago and has had great adoptionat the high end of the banking industry.

Time will tell, but a far less expensive far superior expert approach to portfolio construction is the key to the industry embracing modernity and achieving exponential increases in advisor productivity.

Modernity has little to do with what used to work in the past.

The self interest of the brokerage industry is now nearing the point where it is not just conter to the best interest of the investing public but but it is now counter to the best interest of the industry itself as the industry’s approach to portfolio construction is about to become outdated.



Brooke Southall said:

September 17, 2012 — 6:55 PM UTC

I believe that this is the application in question:

They did file in Dec. ’11 and it includes asking for the ability to long-short, as well as track indexes.


Brooke Southall said:

September 17, 2012 — 4:50 PM UTC

We’ll check it out and make sure it’s right. Kelly may be on a flight on the moment.



ETF Industry said:

September 17, 2012 — 4:42 PM UTC

There’s information in this artcile that appears to be erroneous. In looking at an industry source that provides data for asset managers that have filed for exemptive relief (not injunctive relief, BTW) and there is nothing showing Fidelity filed 3 years ago and left the filing dormant. I believe they filed for passive ETFs in the 1990’s for the launch of the NASDAQ ETF and then filed late last year for passive ETFs. I don’t see any filings in between or anything for actively managed. Is this information erroneous, speculative or correct?

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