I'm not really sure what point you're trying to make with your first paragraph. The regulations are going to change. The funds aren't prohibited from following the law! Investors will then benefit 0.2% less substantially from these funds, I guess.
As for the second point, how is that any different from rebalancing? Money added to the fund is used to buy the new shares. Money withdrawn from the fund is marked against sales of the old shares, no?
You mean investors, at a minimum, will pay at least 3 times what they used to pay to invest their money. That's far more substantial than you are making it out to be. SPY is an ETF tracking the S&P 500. It has ~180 billion in assets. 0.1% is a nontrivial $180 million.
It is rebalancing, but you seemed to state that rebalancing only occurs at creation and redemption. In the case of SPY, the holdings will change every time the underlying index changes, which has happened 20 times in 2015. Each change in holdings requires, at a minimum, 2 transactions, and involves 40 tax payments as a consequence.
Google finance says SPY is up about 0.7% today. 0.1% is fairly trivial.
I actually stated the opposite on rebalancing - that it happens continually - so I'm not sure where the confusion lies. Money is continually entering the fund and continually leaving the fund. Perhaps using some numbers will make it clearer what I mean. Lets say you decide to invest $20 in the fund. And I decide I need my $20 so I withdraw it from the fund. And the fund happens to need to sell MSFT to buy RHT today to rebalance. So it sells MSFT for $20, which you get $19.98 of (minus your tax), and I invest $20 which they use to buy RHT of which I get $19.98 (minus my tax).
Mind you, I don't actually know how this tax is applied for a fund. Is it applied to the fund purchasing shares, or to my deposit in the fund, or to both?! Maybe it's like VAT and it just gets passed down to the final buyer?
Anyway, I'm generally a fan of financial transaction tax. I think it should replace all other taxes. The major benefit being that it can't be avoided by the most wealthy or by corporations, like most other taxes can.
0.1% is far from trivial. If you purchased SPY at the open and sold at the close today, you would have paid 0.1% of the open and 0.1% of the close, or 38% (back of the napkin math) of your profit on the trade in tax. And, that's in addition to any capital gains taxes you need to pay on the profit already.
You appear to be confusing creation/redemption with rebalancing. Creation/Redemption occurs at end of day when people enter and exit the fund. In the trivial example, suppose you're paying for a full unit of the fund (so 1 share of MSFT, 1 share of RHT, etc.) Then the fund manager will need to go and purchase 1 share of everything for you. Now there is also rebalancing, where the index being tracked changes. Suppose we have SPY. There were 20 instances throughout 2015 where the symbols in the S&P 500 were changed. Even if no one created or redeemed SPY, the fund manager would be subject to 40 transaction taxes simply to track the index (sell the old shares being replaced and buy the new one in the index).
SPY, for the record, has an expense ratio of 0.09%. How can State Street afford to manage the ETF for you in the face of this tax? Well to start, you will pay higher fees, which will lower your returns.
I also looked into the details of the tax [1]. It has horrifying economic ramifications:
* Up to 90% reduction in derivative transactions -- Markets are meant to move capital to people and firms who need it and risk from those who don't want it to those who want it. Derivatives are exceptionally important and reducing their use is a bad thing. For example, Apple needs to buy phones in one currency (Yuan) and sell them in another (USD). They face exchange rate risk, as the value of the two currencies fluctuate relative to one another. Apple can enter into a derivative to exchange their potential upside if the exchange rate fluctuates in its favor for a guaranteed exchange rate. Without these contracts, global commerce would be severely restricted.
* A long-run (20-year) reduction in gross domestic product -- this reduces levels of consumption across society, reducing tax income from other sectors and reducing employment, increasing the demand for government services. In other words, you are reducing the ability for the government to pay for services that it now will need to provide more of.
* An effective curb on automated high-frequency trading -- Why is this a good thing? HFT ensures greater liquidity in the market and simultaneously ensures that the prices of assets more accurately reflect their true value.
* An increase in capital costs, which could be mitigated by excluding primary markets for bonds and shares from the tax -- Increasing capital costs reduces economic growth, job opportunity, and R&D. The mitigation proposed is not as effective as one might think, as any purchaser in the primary market understands that the asset is less desirable in the secondary market to a purchaser as a result of the transaction tax there.
This tax is bad economic policy and will hurt everyone in the long run. However, it is a popular sentiment to want to punish financial institutions because they were bailed out. However, it's less popular to acknowledge that the government has made a substantial profit on those bailouts [2].
As for the second point, how is that any different from rebalancing? Money added to the fund is used to buy the new shares. Money withdrawn from the fund is marked against sales of the old shares, no?