ETF Selling Question

[joesxm3]

In another thread there was a remark about index funds or ETF's having to sell every stock in the index when people get scared.

I can see that a mutual fund would have redemptions and have to sell shares to come up with USD to pay the redemption with.

But does the same apply to ETF's. I am under the impression that the ETF holds a basket of shares and then the ETF trades as if it were an individual stock.

I know that an ETF like GLD has provision for taking your share in gold, but only in really large amounts. Do the index ETF's have a similar process where large institutional buyers can liquidate to USD without selling the ETF on the open market? If not, I don't see how people wanting to get out of the ETF would have an effect on the price of the underlying shares?

 

[Graybeard]

Maybe this explains what you are asking.

 

[NW-Bound]

In another thread there was a remark about index funds or ETF's having to sell every stock in the index when people get scared.

I can see that a mutual fund would have redemptions and have to sell shares to come up with USD to pay the redemption with.

If during a trading day, an MF manager gets the same amount of fresh money flowing in that matches the redemption request, he does not have to sell any of his holdings to raise cash for redemption. The inflow and outflow can just cancel each other.

It's the day where there's a lot of redemption and a dearth of money coming in that the MF manager is busy finding something to sell. He may be more likely to sell something that he has some gains on, such as energy stocks currently, and try to hold on to some stocks that are already beaten down so bad that further dumping on the exchange will drive the price down even more.

But does the same apply to ETF's. I am under the impression that the ETF holds a basket of shares and then the ETF trades as if it were an individual stock.

I know that an ETF like GLD has provision for taking your share in gold, but only in really large amounts. Do the index ETF's have a similar process where large institutional buyers can liquidate to USD without selling the ETF on the open market? If not, I don't see how people wanting to get out of the ETF would have an effect on the price of the underlying shares?

I guess that if there is a balance of buy/sell orders of an ETF, then the ETF shares just change hand. No new shares need to be created, nor existing shares redeemed.

However, when there are more sell orders than buy orders, then the way an ETF share is converted to cash is to break it apart, and sell its constituent parts on the market. Then, it has the same effect of dumping stocks on the market, just like redemption of an MF share, except that the ETF value is computed in real time and not by NAV of the MF at the end of the day.

The difference with an MF redemption is that an MF manager has the discretion of choosing what to sell. An ETF being redeemed results in all of its parts getting dumped on the market.

See the following link for the ETF Creation/Redemption Process:

https://www.etf.com/etf-education-c...s-the-creationredemption-mechanism?nopaging=1