What Is the ETF Rule?
The “ETF Rule” is a rule adopted by the U.S. Securities and Exchange Commission (SEC) that allows exchange-traded funds (ETFs) that meet certain conditions to go to market without the delay of obtaining an exemptive order. Passed in 2019, the rule also made custom creation/redemption baskets available for all ETFs.
Key Takeaways
- A rule referred to as the "ETF Rule" was passed in September 2019 by the Securities and Exchange Commission (SEC).
- The rule removed "exemptive order" regulations, enabling ETF issuers to more easily bring new strategies to market.
- It also made customized creation/redemption baskets available for all types of covered ETFs.
Understanding the ETF Rule
The first exchange-traded fund was approved by the SEC in 1992. Since then, these products have grown in popularity and use due to their accessibility and low-cost nature. However, the Investment Company Act of 1940 required that the Commission issue an exemptive order to approve ETFs because of how it was worded regarding reissuing securities.
Exemptive orders were necessary before the rule because the act prevented the approval of ETFs, so the SEC was required to issue exemptions to specific requirements. Each fund was required to file for an exemption—once filed, the application was placed in a queue for review, a process that could take months.
Initially proposed in 2018, the “ETF Rule” was passed by the Securities and Exchange Commission in September 2019. The rule and its amendments went into effect 60 days after its publication in the Federal Register.
The ETF rule, 6c-11, allowed the SEC to eliminate certain regulatory requirements that created these ETF speedbumps. This became known as "exemptive relief" because funds could get their products onto the market much quicker and cheaper.
The rule applies to both passive and active open-ended funds but does not cover closed-end funds or leveraged and inverse ETFs.
Impact on Exemptive Orders
Designed to improve ETF regulation, the rule also aimed to streamline ETF approval because it removed the conditions that required exemption orders, making it easier for companies to bring ETFs of all types to market by removing certain funds from the lengthy process.
According to SEC Commissioner Hester M. Peirce, this helped codify regulations that began when ETFs were first launched in 1992. Commissioner Peirce said in her remarks at an ETF Global Markets Roundtable that “a level playing field without long approval queues makes for better competition, which is good for investors, capital formation, and the health of our markets.”
Allows for Custom Baskets
One of the other key attributes of the “ETF Rule” is the fact that it made custom creation/redemption baskets available for all of the ETFs it covers. This allowed for potential tax benefits for companies issuing ETFs and made it easier for companies and investors alike to understand transaction costs associated with those funds.
What Is the 6c-11 Rule for ETFs?
Rule 6c-11 allows open-end funds to operate without obtaining an exemptive order. ETFs that rely on rule 6c-11 are eligible for the "redeemable securities" and "registered open-end investment company" exemptions.
What are Rules-Based ETFs?
Rules-based ETFs are funds where asset selection is based on pre-determined rules so that only assets that meet the requirements are selected for the fund.
What Is the ETF Method?
ETFs are companies that buy selected assets and issue fractionalized shares that represent all of the assets—commonly called a basket of assets—for investors to buy. Using this method, investors gain access to assets they may not previously have been able to.
The Bottom Line
The ETF rule is a measure taken by the Securities and Exchange Commission that provides relief for funds waiting in line for approval. The rule creates a faster track for funds by removing certain previous requirements.
