Wall Street Fund Giants Face Headache as Indexes Dump Russia

Pure-Play Russia ETFs

When it comes to purely Russia-focused ETFs like ERUS and RSX — both of which have suspended the creation of new shares — it’s less straight-forward.

The Direxion Daily Russia Bull 2X Shares ETF (RUSL), the only leveraged Russia ETF, has announced it will shut.

Other Russia ETFs often directly hold securities from the nation — rather than using options, like RUSL — so might find it harder to close down. Nonetheless, that could be the endgame, according to Todd Rosenbluth, head of ETF and mutual fund research at CFRA.

“If the market is deemed uninvestible to MSCI, offering an ETF tied to it seems harder” to justify, he said. “It is now increasing likely that ERUS/FLRU and perhaps RSX are shut down unless Russia agrees to end its military efforts.”

A spokesperson for BlackRock didn’t immediately respond to a request for comment on the fate of ERUS. The firm on Thursday said it was pressing index providers to remove Russian securities from broad-based benchmarks, and that it was working to help ensure clients could exit positions “whenever and wherever regulatory and market conditions allow.”

A spokesperson for Franklin Templeton — which runs the Franklin FTSE Russia ETF (FLRU) — didn’t immediately comment beyond referring to its earlier press statement.

A spokesperson at VanEck declined to comment.

Other Options

A second possibility is that Russia-focused funds continue to trade in the secondary market, even though the market they track is shuttered. That’s a scenario the industry has faced before.

Back in 2015, when the Greek stock exchange closed during the country’s government-debt crisis, the Global X MSCI Greece ETF (GREK) was still available to investors. Similarly during the Arab Spring in the early 2010s when the Egyptian stock market closed, the VanEck Egypt Index ETF (EGPT) continued to trade.

In these past events, gaps emerged between the prices of the ETFs and the value of the assets they held which didn’t close until after the stock exchanges reopened. The ETFs actually acted as a vehicle to help value the underlying securities while they couldn’t trade.

Whether history repeats and the ETFs keep trading is now up in the air, thanks to the index providers’ latest actions, reckons Ben Johnson, director of global ETF research at Morningstar.

“We’re in uncharted territory here,” he said. “Two major index providers have effectively just told Russia that it’s on its own and that it’s stocks are worthless.”

At Bespoke Investment Group, strategists have been urging investors who don’t have high risk tolerance to avoid any Russian equities, even through exposure via ETFs, saying those products are subject to liquidation or wind-downs due to the sanctions imposed on the country. Last week they said “bottom-fishing is still extremely risky.”

“It’s not clear that the actual securities those ETFs hold can be legally (or operationally) traded, even assuming they find a buyer,” said George Pearkes, a global macro strategist at the firm. Funds that liquidate may not be able to sell securities, given the current rules surrounding sanctions, he said.

RUSL’s liquidation was announced Monday, before BlackRock suspended creations for ERUS, and the likes of DWS Investment, Franklin Templeton, HSBC and VanEck all halted new shares in some of their funds.

For now, the fact the ETF shares still trade on the secondary market highlights a key advantage of the structure over mutual funds, said Nate Geraci, president of The ETF Store, an advisory firm. “ETFs do offer an exit ramp,” he said. “I think that’s important in an environment like this.”