Efficient pricing is a main attraction of exchange traded funds (ETFs). Closed-end funds can trade at big discounts or premiums to their net asset values, yet ETF share prices closely track the value of their holdings. Richard Widows with TheStreet.com believes it’s because they benefit from a complicated arbitrage mechanism: Institutional traders can assemble large baskets of the underlying stocks, exchange them for ETF shares and sell them at a profit. If an ETF is trading at a discount to its NAV, arbitragers can buy the funds units in bulk, exchange them for the underlying securities, and then sell these securities at a profit.
The average ETF has been selling right within its NAV, but some are averaging premiums and discounts almost 10 times higher. Those that are tend to be non-U.S. stocks – mainly because they are sold during U.S. trading hours. Premiums and discounts can also be seen in newer ETFs, as the enthusiasm for the newly launched ETF could bid shares up.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.