JW: On the tax issue, with the Barclays iShares, you can reinvest the dividends. A couple angles on that:

1) Are you looking in some way to alter the structure of your funds so that you can pull that off, and
2) Do you think it's very significant?

GF: There is a lot of bad information going around out there on this subject. The issue basically involves the difference between the Unit Investment Trust structure and the open-ended fund structure. The only funds we have out there right now that are Unit Investment Trusts are the Spider (SPDRs) and the Dow Diamond. All of the other funds that we have are actually open-ended funds. When dividends are received, the fund has to hold onto that money as cash until the dividend is declared by the fund and distributed to shareholders.

JW: Yes, it's a quarterly drag.

GF: It's a quarterly drag, but it's sort of a nonevent for an S&P 500 fund. If you look at the yield of the S&P 500 now, it's about 1%. Assuming that dividend is paid out quarterly throughout the year, you would get 25 basis points of income each quarter. That income tends to be received around the same dates, since companies distribute their income roughly around the same dates every quarter. The fund pays out that income fairly quickly after it's received within the fund. So the period that cash is held within the fund is not the full three months.
It's definitely not the full 12 months. It's a small fraction of the year. The cash drag as a result of that is going to be insignificant.

For example, if you look at the return of the Spider and compare it to the S&P 500, you'll notice that if there is any dividend drag, it's almost impossible to measure. It's more of an issue when you're talking about indexes that have higher yields, as in the case of a utilities fund or a real estate fund. The Unit Investment Trust would not be the right vehicle for those funds. In fact, if you look at all of our other products, we don't use the Unit Investment Trust structure anymore. It's for that reason, as well as a slew of other reasons.

The fact of the matter, though, is that when the Spider was launched in 1993, the Unit Investment Structure was the only structure that the regulators were comfortable with in approving an ETF, so it's the legacy issue of being the first in the marketplace.

JW: Do you think you'll be able to change them [regulators] over?

GF: We have a filing out there to get exemptive relief to allow for the reinvestment of dividends. We're optimistic that we'll be able to get that through, but we're only doing that in the event that yields go back up to more meaningful levels. We're looking forward to the day where the yield goes back up to 4 or 5 percent, but right now it's really a nonevent.

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