Talking ETFs With the SEC's Hester Peirce

years together. I think we've had a lot of great guests, but I think today's guests might be the best guests we've had. Yeah, definitely up there. This is really exciting for me because a lot of the issues we talked about over the past two and a half years are typically stuff that become media stories. You know, are et f s trading at discounts? Um, what about the x

I V story? You know who owned that. All of these issues are issues that make it to the forefront, tend to be issues that the SEC has to look at, which is me foreshadowing who the guest is. But there's a lot of times we'll say we wonder what the SEC thinks about this, and so now we have an opportunity to get that perspective. Well, I miss spoke slightly

because we actually have two guests. In addition to someone from the SEC who will introduce him just a second, we also have a Bloomberg Intelligence analyst who covers regulation joining us. Nathan Dean. Hi, Nathan, how you doing? Thanks for having me. I'm gonna give you that. I'm gonna give you the drum roll because you are actually the person who helped make this happen. So, Nathan, who's our

guest today? Our guest today is uh SEC Commissioner Hester Purse, also known as crypto Mom to many people in the bitcoin community. And it's just an absolute honor to have her. And thank you for allowing me to come on and ask a few questions myself. Uh, this is going to be a wonderful discussion. Nate and I work in Bloomberg Intelligence and we cross paths. I don't know once every two months he'll write about something with the SEC that deals with the t f S and UM. So we've

gotten to know each other pretty well. And I think also when you said crypto Mom, that's how I got introduced to Commissioner because when the Bitcoin ETF wasn't approved, she was on the side of dissenting from that, and that's how I got to know it. But then I've read a lot of her speeches and I find myself very in tune with her takes. So I'm really excited about this best time on trillions. SEC Commissioner, hester person, Commissioner, Welcome to Trillions. I'm delighted to be here. I do

have to start with two disclaimers. One, I'm sure I will not be the best guest you've ever had. And to um, the views that I represent are my own views and not necessarily those of the SEC or my fellow commissioners. Okay, what are your views on banana bread versus sour dough during the pandemic. Banana bread is good, but it has to have chocolate chips in it, and then it's better than sour dough. That's a pro tip

right there. Um. Okay, So down to business. You noted in a recent speech that e t f s were in the portfolio of seven point eight million Americans, and that number even comes from a couple of years ago. Um, And that they're gaining even more share. How big do you see them getting and what do you guys at the SEC watch out for. Well, it's hard for me

to anticipate how big they'll get. I think they'll be more and more a fixture of more and more Americans portfolios, and I can't see them declining in in in importance. I think they'll grow an importance UM in terms of what we watch for. You know, I think now that there's such an important fixture, that also means that there there's something that we have to pay attention to. From an investor protection um and in market stability perspective, I think we look we look at them from both of

those perspectives. One of the things before we get into market stability and some of the exotic products UM when we talk about the rise of e t f s and Passive. I tracked Vanguard and black Rock a lot, and I'm just amazed that how much they take in. They almost taken like all the money and almost all the money is going to Passive. And so there's some people who get concerned that, you know, black Rock and Vanguard, as Passive gets bigger and that money is concentrated, are

going to own too much of America's companies. I mean, I think right now the rule is a fund can't own more than ten and I think Vanguard's biggest fund has maybe two and a half percent of Apple, so they have a lot of room to grow. But that would mean Vanguard could of a stock. Do you guys look at that? Is it possible that there might be a regulation to sort of limit how much a company can own of a stock because right now I think

between black Rock and Vanguard they own about of most companies. Well, I think it is important to distinguish each queen Vanguard for black Rock asset managers and the particular funds that they advise, because it's actually the fund that's the owner, and the funds are managed separately, so they're not Each fund has its own objective, so it's they're not all

managed um in lock steps. And and that means that you can't really say, okay, let's just look at everything that one large asset manager has and just attribute that to the large asset manager itself. Um, you have to look more at a at a more granular level to see which fund owns what. Now that said, as you pointed out, some funds do have quite a big percentage,

and that is something that's that's a new phenomenon. I'm not entirely new, but it's a it's a growing phenomenon, and so I think it's something that that everyone watched. Is that said, there's a lot of concern about passive investing, and my theory is that if passive investing it grows, then there is definitely going to be room for active investors to make a lot of money. If everyone is passive, the few people who aren't will be able to to

do quite well. So I don't think that this means the end of active and I don't think it means that UM markets can't function. So, Commissioner, I'd like to ask a question from the regulatory point of view. You know, last September, the SEC finalized it's et F Modernization Framework Rule UM, you know, which in part aims to facilitate greater competition and innovation. You know to our audience and our audience are generalists. What are the main takeaways for

investors to know? And do you think more work needs to be done in terms of this just the overall et F framework. I think the main takeaway from that rule is that we finally sat down, put pen to paper and said, all right, let's take the collective experience that we've had over the past nearly three decades UM,

and let's let's put that into a formal rule. Up until that point, the way e T F got approved was through an exemptive application process, which is a lengthy UM process and an expensive process and means that UM, we were basically doing one off approval and that just doesn't make sense for something as established as ETS. So there had been attempts before UM. In in I think two thousand and eight, there was an attempt to do a rule in this space, but obviously got overtaken by events.

So the fact that we were able to get a rule out I think is is just good for predictability rule of law reasons. You want to have a general framework that everyone relies on. You want everyone's can additions to be the same UM, and so so it provided some regularity, and I think that's a great start. What it means is that it frees up our staff resources to spend time on more UM unusual e T s, the ones that you would want us to spend a

little bit more time thinking about UH. And so that was That was a side benefit of the rule, just having having more staff time to think about some of these unusual products that are more unusual products that people have come to us UM and asked if they could bring to market. Do I think that we could do

more on the on the rule? Could we extend it? Yes, I think we could have included leveraged and inverse ets and the rule we we chose not to, So I think there will be room for us to to add some more regularity to the E T F market in the future, once we've had more experience with different kinds

of E T F UM. That's a great segue the unusual part, because I wanted to get into some of the some of the more juicy topics here, namely, uh the exotic products like you mentioned, we just saw USO was the latest, you know, teachable moment I called them where people might not have understood what was happening or how futures get rolled before that. It was x I

V leverage GTF was like five years ago. These kind of exotic products crop up now and then, and then black Rock will propose these acronyms that they'll be able to make like E T I or e t P like a labeling system to keep playing vanilla away from the exotic stuff. We've proposed that what we call traffic light, which is like movie ratings, and you know, if it has leverage or rolls futures, it would get a red light and we would just show you quickly why it

got the red light. But this is a real tough nut to crack because not all E t F s are boy scouts and not all E t N s or e t P s are that bad. And I think there's a lot of moving part it's here. What's your take on how to allow for innovation in the exotic areas while protecting the innocent. Well, I think it's a good question and something that we think about all the time. But we do think about it from the

perspective of not being a merit regulator. We're not, so we're not looking at products as they come through and saying, yeah, this one will be good for investors, this one not good. Um, So we allow the one that that we think will be good, and we disallow the one that that we

just just disapprove the one that will not be good. Instead, what we do, as we say, is the disclosure that the fund is going to use going to tell investors what they need to know in order to understand whether this product will work in their portfolios or will work as a tool in their investment strategy. And so that is really where our focus needs to be, and from my perspective, UM we have had some success in this

area in making sure that the disclosure is quite clear. Uh, And I think sometimes people do have the teachable moments, as he said, and you know, they can be really bad events, and so I'm not trying to I'm not trying to downplay them, but I do think it's it's good for people to read the disclosure and then think about how how they'll things will play out and not assume just because things have been going one way for a very long time that they're going to keep going

that way. We've seen in recent months some really some really big changes in our markets, obviously, and that means that products that worked one way for a long time may work in a very different way during that change time. And so UM even very sophisticated investors who were using strategies UM that they thought worked really well found themselves in a bit of a difficult situation in recent months when things changed dramatically, and so it's a good lesson

for all of us. You have to think not only of what the markets look like today, but of how things might change in the future. And you have to protect yourself, um and and and think think ahead and protect yourself for circumstances that might look very different than what you're experiencing now. Um So we all learn in market events like like the ones that we've had in

recent months. That makes total sense. I guess the only thing that I've found in there that I would feel would might get a little pushback is reading the disclosures. I think there's just an unfortunate reality that people just

don't read the documents that much. Um So, the hence, you know, my take is a need for maybe some kind of outside third party objective rating system like movies or something that gives you the information quickly so that you don't have to go and through the prospectives or or do you think just maybe trying to just urge people to read the prospectives or put the information higher

up in the documents. Um what's your take on that, like apathy of reading the documents, Well, that's certainly is a phenomenon that we see, and and it's an understandable one. I mean, the disclosures that we have, frankly for for all investment products are ones that are really difficult to read. UM.

We are working on that in in various ways. We've recently, in connection with with a new regulation for broker dealers and investment advisors, we put out a requirement that there be a short form disclosure, which we hope will be effective.

I've been pushing specifically for for allowing firms to use technology to better communicate with investors, because I think lots of investors who might not be inclined to read a disclosure statement might well listen to it on a podcast, watch it on a video, work with it through an interactive app on their phone. And so a lot of firms really are interested in offering these kinds of things to to investors, but the rules, the way they're written

now make that really hard to do. UM. What can we do to allow um populations that speak different languages than English to get disclosures in a language that works for them, So we can be more creative on that front. But even if we we do a better job in that area. I think you're right that they're going to be a lot of people who still are looking to third parties for guidance about what they should what they

should buy, and what they should avoid. And I don't think a rating system is a bad idea, especially if it's something that's done designed by the private sector. I mean, if I'm going to buy a refrigerator, I don't know a lot about refrigerators. I don't purchase them very often, and so I'm going to look up some sort of third party advice on which ones are good and which ones aren't, and I'm going to run that search based on what my particular needs are. And so I think

those kinds of third party rating systems can be very valuable. Commissioner, I have to ask if you've ever heard of Eric's traffic light system prior to him pitching it to you during this podcast. Well, I'm sorry that I haven't, but I think it's an interesting idea, UM. Commission I want to ask you about another area of interest right now, which is E, S, G, E T F S UM.

Eric is sort of a hater in that world, UM, and you know he thinks thinks that, Well, we've we've covered that before, but you've spoken out UM I believe, on on how the labels of E s G, E

T F S can also be misleading. What are your specific concerns there, Well, I think I'm not the only one to raise concerns about greenwashing UM, which essentially means that you say, oh, well, everyone wants to wants E s G now in their in their portfolio, so we'll just flap the E s G label on and we'll just keep doing whatever it is we were doing before. And that may be fine. I mean, maybe what you were doing before was E s G. E s G

is such a broad set of UM characteristics. So again going back to what I said before, what people need to do, what what companies need to do when they offer these products is they need to explain what they mean by E s G for that particular product and and be very clear about that and then allow investors who care about those things to to pick the E s G products that works for them for whatever purpose

they're trying to achieve. I mean, I think they're There is a lot of attention on whether or not E s G is good for returns or not. And and again because we don't really have a consistent view of what E s G means. You can't really say across the board, yes, it's good to have an E s G portfolio. It's going to increase your return UM, and and some people are willing to sacrifice returns in order

to achieve some other objectives. So again, I think it's really important that UM that the company's offering these products are very clear on whether you will be sacrificed in return or whether they believe that that the E s G characteristics are consistent with with achieving the highest return consistent with that strategy. Let's shift because I don't want to lose some of these other topics here. Um. Obviously Bitcoin, this is uh how I got to hear of you

when you wrote that descent. Um, I was just sort of note about bitcoin. E t f s in the world or the e t P s in the world. There's now different funds across the world. The one in Sweden that's an e t N has been around for five years now, and the premiums on the ones that are e t p s are very small. You can

tell the creation redemption process is working fine. Then you go to the US and you have g BTC, which is a private trust that trades over the counter, so that can trade up to at premiums up to and that's got a couple of billion at this point. So I made the case that they should approve it a to give GBTC people a better shot at a fair price, and be because Europe has shown that the creation redemption process works. Great. What's your latest on where we are

with this? Well, recently I issued a second descent, saying to me, it appears that the current commission is not interested in approving any exchange traded product that's available to to a retail audience that has crypto underlying um, so I'm not I tend to be fairly optimistic about lots of things, so I hope that that this point of

view will change. But the analysis that we've applied in in preventing these products from trading in the United States is a uniquely tailored analysis that we only seem to use for these kinds of products, which suggests to me that we have one standard for crypto products and another standard for other types of products. And I don't think

that's right. And when you talk about this and they say they don't want to have an exchange listed product, Do they consider the GBTC situation, Because it's it's big. I mean, and let's say you bought it at a premium and the premium just happens to drop, but bitcoin went up. You actually lost money even though the underlying went up. No, I think that's a great point, and I think it's it's I mean, I don't want to speak about any product and I haven't tracked that product

the way that you have. But I think that in general, the reason that products that trade on exchanges are attractive is because they do offer this this really good price discovery process and they work really really well, and so that's why people um like to trade products on exchanges, and there's value there. So so I think it's it's something that, um that we should consider. But what what I've seen among folks at the SEC is that there's a real concern to allow any kind of products that

will be easily accessible to retail investors. And I do think it's a bit of a of a merit regulation perspective. UM. I think it's it's the conclusion that they don't think it's it's something that that retail folks should be should be engaged with. And my response to that as well, there's retail and institutional interest in crypto. Whether that's good or bad, that's not really our place to decide. But if we don't allow people to get access through our

regulated securities, markets still get access in other ways. And that's that's fine, um, of course. But but I think what my colleagues would say as well, all right, then if they're problem and again I shouldn't as I started out the podcast, I'm not speaking for my colleagues, but to me that that suggests that if their problems, then we don't have to take responsibility for them. And that isn't a really good rationale for a regulator to deny a product um to trade in our market. Yeah, just

just among those lines. Commissioner, you know crypto dad. Former CFTC chairman Christopher John Carlo has left. Your term is up in June, and you know, obviously I think everybody's where commissioners can serve beyond their term dates. But when you eventually leave the commission, should the bitcoin bitcoin community be concerned that there's not somebody on the regulatory side that would be pushing or a champion for cryptocurrency, you know, is there is there going to be avoid there. So

I don't view myself as a champion for cryptocurrency. What I do view my role as saying, look, innovation brings good things to society. It doesn't mean that every innovation is a good thing. It just means that the job of a regulator is not to stand in the way of innovation. It's to set up a regulatory framework that

is flexible enough to accommodate innovation. And I think there there are many people both at the SEC and at the cfcc UM, which is which is our fellow capital markets regulator, who are very interested in seeing innovation move forward and figuring out framework that will work well for innovation. And I've always said it, you know, whether or not any particular commissioner is at the Commission is sort of irrelevant.

What you're trying to do is you're trying to build institutions that that succeed Apart from whether any particular person is there or not. I think that that it is good to push the SEC to rethink its approach to innovation, and I will continue to do that as long as I'm there. But there are others at the SEC who feel the same way as I do, both on the

Commission and on the staff Commissioner. I'd like to ask you about bond ETFs, which have been a concern of late because some have traded a discounts to their navs

and this always kind of raises concerns. How much does the SEC see that NAV issue being stale versus being more of a plumbing problem with E t F. Well, I think that there are gonna be a lot of things that we look at coming out of this period because it's been such a unique, Uh, it's been a unique period in the markets, and it's it's offered us a lot of interesting things that we can look at, and among those are going to be how e t

s functioned during this period. Um. You know. One suggestion is that the E t F pricing actually allowed us to see more quickly where the bond prices would go ultimately, and so, um, it's may not be that the discount was inappropriate, right, That's one theory that I've heard. So I think we we have to wait until we have the calmness that we need to be able to go back and look at these things. But but certainly on

the whole. I think ets function quite well during the past several months, and um, I think probably we were on the whole helpful to the functioning of markets. And just to follow up on that, UM, you know, one thing I saw the SEC put forth. I don't know if it was in your neck of the woods or not, but we as e t F analysts are constantly having to defend e t F s from like myths and

accusations and attacks. One of the ones everybody saw the bond e TF trading way below the n a V. And then there was this other case that mutual fund n a V s We're being put out that we're arguably stale and fake, and it made the mutual fund look like it was better than, so to speak, the e t F which was quote broken. But the mutual fund Wasn't it really operating in that in that sort of liquidity hell as I call it quite yet? But then outflow started and we think they were probably GONNAT

they FED stepped in just in time. We didn't get to see the experiment playoff. But largely I think the SEC notice what we notice, which is navs for bonds in a crisis tend to be just a little off because they're using old pricing. Do you think that mutual funds and the and the pricing services should look for ways to, I don't know, triangulate or update the pricing of the n A v s so that is a little more reflective of where the E t F is

and the reality of that liquidity movement. Well, I think valuation during a time like this is extremely difficult, and I think we could do a better job as an agency, um which we're trying to work on, of providing guidance about how to how to do valuation and how to think about it at times when it's really difficult to figure out what the what what the underlying bonds are are trading at because there's there's so much dislocation in

the underlying market. Um. So that's that's never going to be an easy thing, and so I don't I don't know that we're gonna have a silver bullet um to solve it, but I think we're trying to trying to give give funds a better sense of how to approach the problem. I want to shift to marketing a little bit, Commissioner, because marketing is a big part of the E t F industry and one of the e t f s

that never got out, and I was just curious. You can tell from the names of e t f s, like the Trade War e t F, there's a work from Home et F coming out there was They keep getting closer and closer to straight out celebrity endorsements, I think, And there was one filed a couple of years ago called the Quincy Jones Music Streaming e t F. Was pretty plain vanilla held, like you know stocks that were in the music streaming economy playing vanilla the ETF, but

the name Quincy Jones I think had some caution. Then the prospectus was refiled and you could see that they changed some things based on comments, but it's still never made it to market. Before you answer, I, Nate wants to provide a little more color and then we'll get your take. Yeah, it was just I mean, the same thing was happening in the initial coin offering space, you know, with Floyd Mayweather and DJ co League uh and with

their their interactions with the SEC. So I think our question is that you know, is is the SEC looks at these products that are coming out with celebrity endorsements. You know, is there a higher standard or even in this era of COVID where uh, you know, where people aren't as you know, in tune with their day to day activities. I guess to say, you know, is the SEC taking a different approach or is it the same approach?

I mean, could you just provide some more color on that. Well, I think we always worry about people being taken in by by marketing that may not be um in, that may not be consistent with the underlying products. So that's something that we're always looking at. Uh, during this COVID time, we are paying attention to any thing that COVID related because frankly, just you know, it's like that now it's the three c's, it's cannabis, crypto, and COVID where people

are using those terms to rip people off. That doesn't mean that every product that involves those things is a fraud, but we certainly pay attention because people are opportunistic and they will use whatever whatever mechanisms they can to try to take advantage of people. And we do hold people responsible who tout a product. Um if if they're they're touting it and they're they're making money from touting the product,

and saying things that aren't accurate. Again, I'm not speaking to any particular celebrity endorsement, but we do hold people responsible and I think we've made it very clear that we do that, and people in the industry realize that we have fairly tight guidelines on how people market things. So there there's not a lot of room, I think, for legitimate players to use illegitimate means and get away

with it. For marketing things. Again, I'm not speaking about any of the products, the specific products you mentioned, but at the same time, I don't think there's anything wrong with coming up with a marketing plan for your for your products to reach an audience that will will find that product to be useful or interesting or something that they want to buy. So, you know, one of the things I wanted to ask you about, Commissioner, was E t F debut back in I read one of your speeches.

You had a niece, I think that was born then, so you watched your niece basically grow up at the same kind of time frame that the E t fs have sort of grown and developed. Um And you know, I don't know if you knew this, but Eric and I have done a little bit of a history history lesson on e t f s and written about them

and did a whole podcast about it. But one of the things that we've learned about that is that the initial idea for the e t F actually came out of the SEC, which looked at Black Monday of and said, Wow, it'd be great if there was a back a market basket like instrument that could help buffer liquidity UM, which we always thought was sort of amazing that the SEC

basically helped spawn the e t F industry. When you kind of think about all of this and how e t f s have evolved, what is it about e t f s, Like, where does the magic come from? Do you think? I think it comes from the fact that it really recognizes the way that markets work and the UM it allows us to take advantage of the way the arbitrage mechanism works in a way that's really

beneficial for UM. And again I'm not speaking about any particular product, but I think retail investors have really benefited from these products because it just puts the market mechanisms to work for them. And I think it's a good It's a good lesson for us at the SEC to remember that While innovation can seem scary, UM, ultimately it can end up, you know, really benefiting a lot of people.

And and now that we have all of this new technology that allows us to do things that were unimaginable in the past and allows us to do better data analysis. Not us as sec but us as as humans. Everyone has something to contribute to the market UM, whether it's that person's knowledge, experience, preferences, all of those things feed into the market mechanism and produce UM prices, and those

prices are information. And so it's exciting to let markets work and do their thing because that ends up meaning we have better resource allocation, and it means that people are better able to get the things that they need and appreciate UM. So even some of these recent supply chain disruptions that we're seeing, we're seeing prices really changing from what they normally were UM to reflect the fact

that there's a shortage of this UM. So letting these mechanisms work is something that that E T S I think really really exemplify. So the question for me is and this is can be just expanded to even just broader than just E T S. But you know what other accomplishments. Do you hope to achieve while you're still at the SEC Are there any rulemakings that we'd like to get out or anything to that nature. I guess what my question is just what are your fear of

their goals? Sure, I would like to continue to push on UM making the agency more welcoming to innovation, whether that's through the creation of an Office of Innovation or just through better mechanisms for allowing innovative products to get through UM. I think we do need to spend some time on some issues that have languished for a long time, for for years UM. That includes a rule for modernized

rule for transfer agents. That includes regime for finders who helped to match investors with with companies that need capital. So those are some of the things that that I hope to achieve. I think we will also have just a lot of work coming out of this crisis, and as I've mentioned already and analyzing what's happened, So I think that will will UM affect some of what we're doing. And then we have we have a number of ongoing

rulemaking projects. I've been involved in standing up the regime for security based swaps and so I've like to see progress on on getting the rules are in place, but but the the implementation process is ongoing now, so that's another area in which I'd like to be involved. UM record keeping rules for broker dealers are really outdated, so

I'd like to see those get updated. So a lot of UM, A lot of just kind of routine thing but important things, and then some some more interesting ones, like trying to finish up a new draft of my safe Harbor idea for UM for crypto, which is something that UM that I put out a few months ago, and i'd like to I've gotten a lot of feedback and i'd like to to think about putting out a

second version of that. Okay, Commissioner, I have a final question for you, and it's one that we we ask many people who get to come on trillions, which is and you're actually unique because you get to see the things that are in the market but also a number of things that don't make it to market. What is your favorite E t F ticker? I am not going

to answer that question. As a regulator, I couldnot answer that question, but if I were, you know, if if I were making an E t F picker now I guess it would have to be something related to toilet paper so PP or something like that. Right, Yeah, there's a few two letter tickers. Well, you gave me an idea which was c c c uh covid. That thing would that's not a bad idea, but that would fly off the shelves. Commissioner I just went on behalf of Eric and Nathan and myself. Um, thank you so much

for being on Trillions Day. Well, it's been a lot of fun and I appreciate all your time. Thanks for listening to Trillions until next time. You can find us on the Bloomberg terminal, Bloomberg dot com, Apple podcast spot, if I, and wherever else you like to listen. We'd love to hear from you. We're on Twitter, I'm at

Joel Webber Show, He's at Eric Faltunas. You can find Nathan at Nathan Dean d C. And you can find Commissioner Hester Purse at Hester Purse p E I R C E. This episode of Trillions was produced by Magnus Hendrickson