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Analyst Sees Tough Road Ahead For Fidelity Sector ETFs

Analyst Sees Tough Road Ahead For Fidelity Sector ETFs

Mutual fund giant Fidelity is getting closer to expanding its ETF lineup, currently comprised of just one fund, but at least one analyst is questioning the firm's strategy.

In a filing with the the Securities and Exchange Commission, Fidelity revealed plans for 10 sector ETFs based on indexes from MSCI (NYSE: MSCI). The fund's will be sub-advised by BlackRock (NYSE: BLK), parent company of iShares, the world's largest ETF issuer.

Those ETFs include the Fidelity MSCI Consumer Discretionary Index ETF, the Fidelity MSCI Consumer Staples Index ETF, the Fidelity MSCI Energy Index ETF and the Fidelity MSCI Financials Index ETF as well as funds for the health care, materials, industrial, technology, telecom and utilities sectors.

That means Fidelity, in its first major ETF push, is going to directly compete with State Street's (NYSE: STT) State Street's Global Advisors and Vanguard, the dominant sponsors of U.S. sector ETFs. The move surprises some industry observers that expected Fidelity to capitalize on its tradition of active management as it moves into the ETF space.

"We had expected Fidelity to offer more actively managed or rules based ETFs leveraging their mutual fund team's Select series that has a strong record, rather than offer a me-to series of ETFs," said S&P Capital IQ analyst Todd Rosenbluth in e-mailed comments. "Sector ETFs is a crowded market, with over 200 exchange traded products supporting approximately $170 billion according to BlackRock data. First half of 2013 flows has been really strong with 27% share compare to just 12% of the broader mark."

The issue is not that Fidelity is late to the ETF party. Charles Schwab (NYSE: SCHW) and PIMCO have proven issuers can be late to ETFs and still be successful. Schwab and PIMCO have almost $26.7 billion in combined ETF assets under management. Schwab ETFs have proven popular with investors due to paltry fees while PIMCO has been able to successfully leverage its reputation for active management success, something that was expected out of Fidelity.

Related: Bond ETFs for Rising Interest Rates.

At the sector level, competing with State Street and Vanguard is difficult at best. State Street has the first mover advantage with sector funds such as the Consumer Staples Select Sector SPDR (NYSE: XLP) and the Health Care Select SPDR (NYSE: XLV) while Vanguard's low-cost reputation has helped the firm accumulate impressive assets under management totals for funds such as the Vanguard Energy ETF (NYSE: VDE) and the Vanguard Utilities ETF (NYSE: VPU), among others.

Most of the Vanguard sector ETFs charge 0.14 percent per year in fees and the SPDRs equivalents are not exactly pricey at 0.18 percent. That could be a sign that any legitimate competitor to those firms' dominance in sector funds might need to undercut both on fees. Still, some ETF sponsors have tried and failed to compete with State and Vanguard with sector funds.

If there is a winning recipe, it is to take a page from the playbooks of iShares, PowerShares and Market Vectors and that is to capture sector ETF assets with sub-sector plays such as the PowerShares Dynamic Media Portfolio (NYSE: PBS), the Market Vectors Oil Services ETF (NYSE: OIH) and the iShares U.S. Oil & Gas Exploration & Production ETF (NYSE: IEO).

For more on ETFs, click here.


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