Looking closer at ETF liquidity, investors have to understand that ETFs represent a basket of underlying securities and the underlying stocks continue to actively trade in the market. While an ETF may exhibit low trading volumes, trading activity in underlying stocks can be leveraged by market makers or Authorized Participants to facilitate efficient trade orders, potentially creating greater liquidity for the ETF.
[related_stories]“Regardless of the ETF’s average daily volume, in normal market conditions many client ETF trades can usually be quickly facilitated, small or large,” Clark said.
However, once people start asking for large block trades or more illiquid asset classes, advisors and investors should start putting together a plan of attack. For instance, large investors can work with a knowledgeable ETF trading desk to maximize an ETF’s liquidity.
Clark suggests large investors should follow some simple practices to seek fair execution and access the full potential liquidity when buying and selling ETFs, including the use of limit orders, the utilization of a broker’s block desk and avoidance trading at a market open.
Market orders and stop orders have caused investors to execute trades at prices well beyond their targets. Instead, a limit order, which buys or sells a set number of shares at a specified price, avoids many pricing problems.
A broker’s block desk helps investors get in touch with experienced traders to efficiently manage an ETF’s underlying liquidity quickly and work with market makers.
Lastly, market opens are typically volatile, which can potentially have a negative impact on execution quality.