An authorized participant would borrow shares of stock from an underlying benchmark and put them in a trust to form a so-called creation unit of an ETF. The Trust would provide shares of the ETF that are legal claims on the shares held in the ETF. As such, the authorized participant exchanges the basket of stocks for ETF shares, which are then sold to the public as stocks in the open market.
While Macquarie is entering a crowded field of established U.S. market makers, the firm believes it can leverage its expertise in the Asia-Pacific region to become a prominent U.S. market maker in ETFs tracking that region, Reuters reports.
A liquidity provider can facility ETF buy and sell orders that comes through exchanges, providing liquidity on both sides of the market for the duration of a trading session. The liquidity provider sells to the market as an investor wants to buy an ETF. The liquidity provider will go long the underlying stocks that make the ETF why going short the ETF to hedge his position.
Once demand for an ETF reaches the size of a creation unit, or about 50,000 shares, a liquidity provider can put in an order for a unit to an Authorized Participant who will go to the actual ETF issuer to exchange the in-kind portfolio of component securities for a creation unit of the ETF, relieving the short ETF position. [How ETFs Trade]