The content of this post is relevant for investors who have access to ETF traders. Individual investors do not always have access to trade ETFs as referenced below.

It is important for investors who are utilizing exchange-traded funds (ETFs) to understand all the market participants that exist in the ETF marketplace. It doesn’t matter if you are an individual investor or an institutional investor, understanding the ETF capital markets landscape is important to navigating the ETF market efficiently. There are a variety of ways to access liquidity in ETFs. There is “on-screen” liquidity (secondary market liquidity) vs. underlying liquidity (read the previous blog post on the topic here). Understanding all the different types of market makers, liquidity providers and brokers and how they interact with one another will help give investors the proper perspective on the entire ETF trading landscape.

A good way to think about it is that there are traders that commit capital and traders that don’t. Committing capital means using firm capital to facilitate client order flow. In other words, these firms are typically using their firm’s balance sheet (capital) to provide liquidity in the ETF through the underlying basket. For instance, if a client wants to buy a domestic ETF, the ETF trader will sell the client the ETF and typically hedge themselves by buying the underlying stocks (or hedge with a correlated security). Then the trader will either unwind their position via the creation process or they will unwind in the open market. Once clients start utilizing the ETFs that are outside the top 50 most actively traded ETFs, their order is probably eventually interacting with one of the traders below that use their balance sheet to provide ETF liquidity.

Different Types of ETF Traders

There are two main types of liquidity providers that use their balance sheet to provide ETF liquidity: traders that can speak directly to clients and traders that cannot.

ETF Traders That Do Commit Risk Capital

Institutional ETF Trading Desk

Electronic Market Makers/Proprietary Traders/Liquidity Providers

Showing Page 1 of 3