How ETP Managers Can Ensure Compliance with Continued Listing Standards

Traders Magazine Online News, November 28, 2018

Veronica Popp

In early 2017, the Securities and Exchange Commission (“SEC”) approved rule-change proposals submitted by NYSE Arca, Inc. (“Arca”), Bats BZX Exchange, Inc. (“Bats”)¹, and NASDAQ Stock Market LLC (“Nasdaq”), (collectively, the “Exchange”). The amended rules, which became effective January 1, 2018, establish continued listing standards for passively and actively managed exchange-traded products (“ETP”). More specifically, the rules require ETP issuers and managers (collectively, “Managers”) to adopt new monitoring and oversight protocols to ensure continued compliance with the applicable listing standards. In the event an ETP falls out of compliance with the standards, the Manager must promptly notify the appropriate Exchange. As discussed in more detail below, the penalties for noncompliance could be detrimental to an ETP.

With the one-year anniversary of the continued standards rapidly approaching, Managers should evaluate the effectiveness of their monitoring programs, keeping in mind that they will need to attest to their compliance formally by sending a signed affirmation to the ETP’s respective Exchange no later than December 31, 2018, and annually thereafter.

What Are the Continued Listing Standards?

The continued listing standards largely mirror the initial listing standards ETPs had to meet when they were approved for listing on an Exchange. As such, passively managed, index-based ETPs should refer to the generic listing standards of their Exchange; actively managed ETPs should refer to the generic listing standards for active ETPs or the conditions set forth in their 19b-4 Order, whichever is appropriate. Broadly, these standards set forth specific composition requirements related to the underlying index or reference asset of passively managed ETPs and the portfolio holdings of actively managed ETPs. Because listing standards can vary by Exchange and are based on an ETP’s component stocks, Managers should consult their respective Exchange’s rulebook or their 19b-4 Order to determine what standards apply to them.

How Should Compliance Be Monitored?

As the SEC acknowledged when it extended the implementation date, these new standards impose “significant new compliance requirements on issuers that they have not been subject to previously.”² To effectively monitor compliance, Managers should, if they have not already, adopt trade monitoring procedures to test their ETP composition against the listing standards. For index-based ETPs, effective monitoring requires a Manager to test the compliance of the ETP’s underlying index. This means passive Managers must work with third-party index providers to ensure they receive the data necessary to test the compliance of their ETP and their index.

Testing should be done:

• quarterly at minimum, and
• when the index undergoes material change, or
• at time of rebalancing, or
• at time of reconstitution

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