Michael [00:00:02]Hello, welcome to our ETF Insight series, I'm Michael Morley of State Street Global Marketing. I'm joined by Frank Koudelka, Global ETF Product Specialist, and Greg Fortuna, Global head of Fund Connect. We're here today to discuss trends in the ETF space and how we're partnering with our clients and the industry at large to improve outcomes for all participants. Greg, I understand that the Fund Connect platform recently expanded to encompass all interested market participants. Can you describe the rationale for this and the benefits the technology delivers?

Greg [00:00:33]Sure, thanks, Mike, we issued a press release several weeks ago announcing the opening up of the Fund Connect platform and really it was at the market and client demand, which was the main driver behind it. So we've had the platform live since 2008. We started as a single issuer platform and quickly expanded. We now have nearly 40 issuers and almost 80 APs globally. We are live in the US, Canada, EMEA and APAC. And so with the depth and breadth of the product and the client base, we heard from the client community, both on the AP side and the market maker side that there are just too many platforms out there. And they felt that with the depth and breadth that we were well positioned to sort of be a single entry point into the broader marketplace and allow for them to maybe cut down on a number of these platforms that they have to enter each day in order to trade in the primary market. So those conversations and really the positioning of GlobalLink, which is the series of agnostic platforms that we run at FX Connect, Fund Connect, Currenex etc, we thought that now is the right time to put those two things together with the technology that we've built and open up to the broader marketplace.

Michael [00:01:54]Thanks, Greg, sounds like a big step for sure in the evolution of the platform. Now, Frank, pivoting to the industry trends, has the momentum in active ETFs continue to build since we last spoke? Are there any new developments we should be aware of in terms of ETF innovation or demand?

Frank [00:02:10]Yes, thank you very much, Mike. So, yes, 2020 saw a record year in active ETFs. They took in about 60 billion in net inflows and that was almost double the amount that they took in for the previous record. And what we've seen at 2021 is just more of the same through April active ETFs have taken in 46 billion in assets, which puts us on pace to double again this year. We've talked about semi-transparent as one of the pivotal trends in the marketplace. But if we take a step back, Rule 6c-11, what's known as the ETF rule that the SEC passed the previous year, has made it a lot easier, quicker, less expensive and created a lot of flexibility from a portfolio management standpoint for active managers to get into the space. So you take that and then you take the innovations around semi-transparent active, which allows for more flexibility and an expanded toolkit for managers. And we're seeing this combined to this unbelievable momentum in inflows for active management to the point where active management now is taking in about 15% of the flows, punching way above their weight of about 3.5% of total AUM. And then you combine this with the momentum we're seeing in ESG, another innovation that continues to penetrate the ETF market, many of these strategies are actively managed as well. And with the unprecedented growth we're seeing with ESG and a lot of them, again, being wrapped within an active mandate we're looking to see ESG assets double from last year. They exited 2020 with 187 billion in assets. And based on the current flow data, we're looking to see that double so unbelievable trends that we're seeing momentum in the marketplace. And it is a great time to be an active manager as it relates to ETF.

Michael [00:04:14]Well, no kidding and really just feels like demand is building and on that active ETF thread, I know we recently announced that we were appointed to service Alliance Bernstein’s new dual access ETF. Can you provide some color on the benefits of this cutting edge fund structure and our role in bringing it to life?

Frank [00:04:33]Yes, absolutely and that just shows that so the dual access is available in Australia. So it's an innovation that the Australian market brought to active management. And here it allows for an Australian active manager the ability to have listed and unlisted fund distribution channels targeted with a single register. So what does that mean? It allows for economies of scale, cost savings you're going to get by not having to manage and pay the costs of separate trusts for an unlisted mutual fund and a listed ETF so a lot of benefits from a manager standpoint. And State Street, we leveraged our global ETF platform that creates basket files for the marketplace to create what's known as indicative NAV files for the marketplace to actually quote these ETFs. So we were instrumental in leveraging technology to bring to bear to allow for more access to these types of products within the market. And honestly, this is where we're seeing a lot of the action. I had mentioned the US market punching above its weight with active management. Well the Australian market, since this innovation has been brought to bear now has active ETFs making up 20% of assets under management and about 25% of inflows in the Australian market. And that's why we are seeing a lot of interest from clients, both existing ETF clients that are looking to launch active strategies within the marketplace and then traditional active managers that have unlisted mutual funds that want to now penetrate the ETF and listed marketplace. So a lot of innovation taking place globally around active management and Australia, right in the middle of it with this dual access model that has been created.

Michael [00:06:28]Got it, cheers, Frank. Now, Greg, let's talk a little bit about custom baskets. As I know, they're a key feature of ETFs and a big focus for many clients. Why are these in vogue and how is the Fund Connect team helping clients with this process?

Greg [00:06:43]Yes, I mean, I think Frank touched on it earlier with the, as he called it, the ETF rule, the Rule 6c-11. We're seeing that the adoption of that rule in December of 2020 or it was actually in 2019 that the rule came out but everyone needed to be in compliance by the end of last year. And we've seen both within the fixed income space and also with the rebalancing of the remainder of the funds, those are the two big areas that people are really looking at that custom basket. And we've seen strong growth and just a ton of focus on those two areas. And so that fixed income basket negotiation is a very manual process. It's a very inefficient process. There are tools that are out there. Bloomberg has a tool, BSKT that we actually were the first platform to integrate to in 2018. And that is something that we see continuing even as we build this new open architecture platform that I mentioned earlier and that we're now opening to the market and we really see a lot of opportunity to add both efficiencies into the marketplace and into the custom basket world for all participants but also potentially to add State Street Alpha℠ in there as well. And so when you look at the systems that are there and the systems that are needed there, really, you know, they're very inefficient. You've got issuer portals that are out there between the APs and the issuers. You've got AP portals that are out there between the market makers and the APs. And then you've got a number of different methodologies for the actual market makers to do some of these negotiated baskets and custom baskets with the issuers themselves, whether that's chat functionality, whether that's something like BSKT from Bloomberg, et cetera. And so really that adds to a lot of dispersed data and timing. And so there are a lot of inefficiencies there. And really what we have built into the system is we've built some tools for both tracking and approving these, which are both mandates under the new ETF rule. And so we've built that within the application but then we've also consolidated some of these bespoke systems into a singular platform such that we can add efficiencies throughout the entire lifecycle. So really helping the automation side of this customized basket technology that's really just taking off over the last several months.

Michael [00:09:08]Interesting, thanks, Greg. And zooming out a bit I understand you've just held several initial discussions with participants across the industry. What themes stand out in terms of their main challenges and opportunities?

Greg [00:09:20]Yes, I mean, the number one is the lack of efficiency in the primary market. We heard that from every single participant that we talked to. And really, like I talked about, the disparate portals that are out there, the various touch points, the data and the timing of data that was also a big one. We heard the term swivel chair numerous times. I have to go to this system to pull this report. I need to go get my PCF  file here. I need to, you know, there was just a number of different things that they really keyed on that were really all around efficiency and data. And I think the other theme that we saw that was huge within the market with the time it takes to get these orders done. You know, we heard from one particular Fixed-Income PM that they have a singular PM working on negotiated baskets that spends upwards of eight hours a day, depending on the day, just doing those negotiating baskets. And it's due to the inefficiencies in the process. And so I think what we're doing and what we're seeing in the marketplace is really solving for those inefficiencies by building an end-to-end solution set that really encompasses all aspects of the market, whether that be market makers, APs issuers and giving them a singular set of data and giving them the ability to view that in whatever format they want. So to give you just some perspective, last year, over 50% of our order flow in the US, which was our largest market from a portal perspective, was done through APIs, completely headless. And we see that trend continuing and we see a lot of appetite for that across the marketplace. And so building an agnostic system that will allow clients to interact with it, whether it's through their OMS or directly within the platform, in both a headless and a fully functional front end perspective, we think that's a key perspective going forward within the marketplace.

Michael [00:11:17]Very good, how about from a workflow perspective, what are the top trends you're seeing across our client base?

Greg [00:11:23]Really, it's the three As. We see automation, aggregation and agnostic solutions that’s really the way that we see the order flow going forward. A typical AP can log in to as many as 15 or 20 systems globally to handle primary market creates and redeems and that's just completely inefficient and very expensive. The other piece that we heard from a lot of our community was that building API connectivity and fixed connectivity into each and every one of these platforms and supporting the different order types and different flows that are unique to each of these platforms is very expensive and costly on a go forward basis. And so if you look again at our platform today, we handle over two dozen order types. And so we think that aggregation and that ability to handle multiple order types within a single interface that's going to be key to help not only with the automation but also with the expense of it, where you can plug in once and really get out to the market very efficiently through the platform.

Michael [00:12:32]Absolutely, thanks, Greg. Now switching gears to everyone's favorite topic, the wild world of crypto. Frank, what are you hearing in terms of demand for crypto ETFs? Do you see this year as a flash in the pan or are you expecting sustained growth?
Frank [00:12:45] Thanks, Mike, so crypto is another area of growth. Crypto is it's a new and exciting asset class. And ETFs just have become the logical investment wrapper of choice to bring this innovation to the market. We do expect continued growth because we're seeing global demand for it. But I think it's going to be choppy with the volatility of the crypto markets. But we do see this as a sustained growth area and an area that we're investing in.

Michael [00:13:13]It's certainly grabbing a ton of attention. And how is State Street supporting clients that are looking to enter this space?

Frank [00:13:20]So State Street is looking at a holistic approach. We started as an administrator. We were actually the first named administrator in the space when the Winklevoss Bitcoin Trust was filed several years ago. And we're supporting the administration of crypto ETFs today. And that's everything from fund accounting to financial reporting, basket creation and settlement services. And we're seeing that, we're already seeing launches in domiciles that have embraced crypto from a regulatory standpoint. But really, we're pivoting quickly in 2021 to be able to be named as the crypto custodian. And the rationale here is clients want to name State Street as the custodian on their filing. And in order to do so, we need to make sure that we build out a sub-custodian network of crypto custodians where State Street can be named custodian. And we can then choose from a network of sub-custodian or crypto custodians to be available to our clients. This, we think, is paramount to the success of the products because the regulatory environment is looking for global custodians to really step up and actually be the main custodian. So we've been thinking a lot about operating model in our technology. Crypto requires different decimal place precision compared to traditional assets. So anywhere from eight to 14 decimal place precision, which is something that we've already built into our technology. There's also the ecosystem themselves, there's still a lot of feeling out going on, so certain entities, authorized participants, might not be able to hold crypto or sell crypto but other trading entities, market makers might be able to do so. So we're thinking about how do we embed these capabilities and workflows in our technology so that we're not boiling the ocean or recreating the wheel as we're allowing clients to actually launch product. Greg, can talk a little bit more about where we're going from a Fund Connect standpoint because we're going to have to leverage technology specifically to the marketplace, the order taking platforms to ensure that the right entities are actually able to transact on crypto, settle crypto and be doing it in an automated and efficient manner.

Michael [00:15:51]Got it, thanks, Frank. Greg, can you explain the Fund Connect angle a bit more? How are you working to support clients' crypto ETFs?

Greg [00:15:59]Yes, I mean, I think Frank hit the nail on the head. So, for example, when he was talking about the sub-custodian and the digital custodians as far as digital wallets and being able to connect in there, you may have and what we're hearing in the marketplace is a lot of the APs won't hold the digital but the market makers will. And so we need the ability to when the APs are doing creates redeems, you don't want to have another bespoke process for them to have to do either manually outside of platforms or a different trading methodology. You really want that to flow within their normal course of business. So we've added the ability to add in that sub-custodian in there that feel for the market maker in there so that it will automate the process downstream to settle between the market maker and the fund wallet at that digital custodian, so that, again, it's all captured within the same workflow, all captured within the same platform. And from a reporting perspective, you have that full end-to-end view into the world. And I think, you know, the flexibility and the rules engine that we built within Fund Connect has served us very well. We talked earlier about over two dozen order types. The key to all of this is doing it in that automated and efficient process. You don't want to have a whole separate way that you're going to transact for cryptos that you would for semi-transparent funds than you would for custom baskets, etc. You want there to be that flow and that consistency but allow for the nuances to be captured in a very efficient manner such that you can support and provide that coverage both for the breadth of product but also it varies on a jurisdictional basis as well. And so being able to marry those two and do so in an efficient manner for not just the funds that are serviced by Frank but also the funds that are serviced outside in the industry in general that's really what we're building and I think how we're empowering this market.

Michael [00:17:55]Excellent, great to get a sense of where the market's going and how we're helping. Thank you both for your perspectives and thank you for taking the time to listen. Please stay tuned for our next podcast on the ETF market and check out our ETF servicing web page on statestreet.com for more insights. For more about Fund Connect, visit fundconnectportal.com, thank you.