ProShare on a $9 Billion Roll But Facing New Competition
In June of 2006, ProShare Advisors of Bethesda, Md., the sister organization to the ProFunds family of mutual funds, broke new ground in the exchange-traded fund (ETF) marketplace when it launched the nation's first short-only and leveraged, both long and short, ETFs.
Through last week, the ProShares ETFs were the only leveraged ETFs available. Moreover, ProShares had been alone in offering the only short ETFs to take an eternally pessimistic view of their underlying domestic or international equity indexes and allow investors to hedge other investment holdings, or profit from a market decline.
But ETF rival Rydex Investments of Rockville, Md., debuted six leveraged long and short ETFs last week, a sign that ProShare is no longer alone in its universe.
Michael Sapir, the chairman and chief executive officer of both ProShare Advisors and ProFund Advisors, which launched leveraged and inverse mutual funds in 1997, had been a senior vice president at Rydex. He followed Rydex's lead into the world of leveraged and inverse mutual funds with the birth of his own competing ProFunds group. But Sapir's launch of the innovative ProShares short and leveraged ETFs has put the firm17 months out in front of Rydex.
ProShares' ETFs fall into three categories. Six ultra ETFs employ leverage with the objective of doubling the upside return of their underlying index. Investors can choose among ETFs that track to well-known indexes including the S&P 500, Russell 2000 and Dow 30, as well as six ETFs that track to specific Russell style indexes, such as value, growth, and 11 that narrowly track to Dow Jones sector indexes.
Then there are six short ProShare ETFs that track to the inverse return of those same well-known domestic equity indexes, as well as two short ETFs that track to international equity indexes: the MSCI EAFE Index and the MSCI Emerging Market Index.
Finally, there are 23 ultrashort ETFs that aim to double the inverse (short) returns of similar domestic indexes, two international ultrashort ETFs, and two more-a Japan ETF and a China ETF-debuted last Thursday. All told, there are now 58 ProShare ETFs in the family with $9 billion in assets under management.
Money Management Executive Editor-at-Large Lori Pizzani recently interviewed Sapir just days before the news of Rydex's ETF launch. An edited account of their discussion follows.
MME: Where did the idea of leveraged and short ETFs come from?
Sapir: The reason we decided to offer these specialized types of ETFs was because we wanted to do something that had never been done before. It took us almost seven years to get approval from the Securities and Exchange Commission's division of investment management and market regulation departments. Never before had someone been able to do this. This was groundbreaking and different.
These were the same strategies we'd been delivering for 10 years with the ProFunds, but through a different delivery mechanism. Where it took ProFunds almost nine years to get to $8 billion in assets, it took only 16 months on the ETF side to reach $9 billion.
MME: Have you seen some cannibalization of the ProFunds? Have ProFunds investors migrated to the ProShares ETFs?
Sapir: No. With the ProShares, we've opened our audience to numerous new groups that I don't think would have considered buying our mutual funds in the past, including hedge funds, Wall Street traders and institutional investors. They are all new to us as an organization. We have never before been big with broker/dealers. Since we opened ProFunds, we've catered to registered investment advisors.
It's hard to know exactly who is investing. But we do forensics to discover as much as we can about who is holding assets in the mutual funds. We don't see much evidence of assets going from one pocket to another.
It's also interesting to note that 80% of the assets invested in the ProShare ETFs are invested in short ProShares, while 80% of the assets invested in the ProFunds mutual funds are invested in long-only funds.
MME: How large is the ProShare ETF family?
Sapir: As of Nov. 1, we have 56 ProShares, with two more ultra-short international ETFs ready to launch, a China ETF and a Japan ETF. Japan has been fairly stable to flat. But we are very excited about the China ETF, the ProShares Ultrashort FTSE/Xinhau China 25, which is the first China vehicle of its kind. We know there is sentiment out there that China is due for a pullback, and that's why we're providing an inverse China ETF.
MME: What is the allure of an ETF that shorts the market?
Sapir: Simplicity. Even for many sophisticated investors, the prospect of shorting is complex. You have to borrow the underlying stock, which can be difficult, and sometimes the owner takes it back, or you can't borrow it at all. If you're not a large investor, broker/dealers may not want to handle the shorting, and shorts can be hard to follow. Also, there is unlimited loss potential in a short. In a short ETF, you can only lose up to your investment.
MME: Are you looking to create an ETF-equivalent for each of the ProFunds mutual funds?
Sapir: We look at both of the product lines separately and assess them differently for differing audiences. You won't necessarily see a one-to-one match of the ETFs to the mutual funds.
MME: Why, up until recently, have you been alone in the short and leveraged ETF arena?
Sapir: The ETF marketplace is different than the mutual fund marketplace as the early entrant has a significant advantage. The world knows what we've done is daunting. To have that sort of breadth and depth of product takes skill. We have a patent pending on running these ETF products that was filed even before we received the green light from the SEC.
MME: Do you expect to see competition in the short and leveraged ETF market?
Sapir: Given our success, there will be people coming out with copycat products. We have had the most successful first year of any ETF provider, according to data from Financial Research Corp.
People in the industry are taking notice of our success.
MME: If other providers follow suit, how will you retain your competitive, head-start advantage?
Sapir: We feel good about our capabilities and proven track record. We have the expertise, the pending patent and a breadth of products. We think we've only just scratched the surface.
MME: Could there be actively managed ETFs in ProShares' future once the SEC has given its formal blessing?
Sapir: Everything we have done so far has been based on established, well-known indexes such as the MSCI EAFE, S&P 500, etc. We'll see what the future holds. Right now, we are focused on the parts of the market that most people know and understand.
We haven't developed any of our own indexes or strategies that some other ETF providers have developed, and then created ETFs around those.
We are confident the ProShares ETFs will continue to find receptive investors. Ten years ago, shorting and leveraging were considered almost un-American. The world has caught up with the notion that leverage and shorting are just other tools in the toolbox.
MME: What are your plans and goals for 2008?
Sapir: Right now, we are clearly the leader in leveraged and short ETFs and mutual funds. It is unlikely you'll see from us a third or fourth product of a particular type such as the third incarnation of a long-only ETF going forward.
We've got a great toehold and are looking at areas into which we can expand our presence in the leveraged and short ETF market. As always, we strive to introduce products for which there is a demand. We're looking at a lot of things, primarily untapped areas of significant growth. We will also be looking to develop other ETFs outside of leveraged and short ETFs.
MME: What about the possibility of merging with another ETF or mutual fund provider?
Sapir: We're always open to partnerships. Only a few companies besides ProFunds have established a significant presence in the leveraged and short financial products marketplace. I think you'll see partnerships between asset managers.
MME: What most concerns you?
Sapir: We have such opportunity in the marketplace that I want to make sure we tap all of the opportunities we have. We also want to continue to bring top talent into the organization. We're looking for the best of the best to join us.
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