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TRANSCRIPT
How to Trade ETFs
Presented by FA Magazine & IndexUniverse
November 5, 2013
Moderator Ray Fazzi Senior Editor Financial Advisor Magazine
Panelists
Matt Hougan President, ETF Analytics & Publications IndexUniverse
Dave Nadig Unknown, Unknown IndexUniverse
Ugo Egbunike Director, Business Development IndexUniverse
For internal use only
The Problem
“I can’t buy an ETF that trades less than 100,000 shares a day!”
“I don’t want to be more than 5% of daily volume!”
“I know I can get in, but what if I want to get out?”
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For internal use only
Myth 1: You Can’t Trade an ETF with less than 100k shares of ADV
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For internal use only
Myth 2: An ETF is As Liquid As Its Underlying
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For internal use only
Trade
Elephants & Knotholes
For internal use only Source: Bloomberg,
For internal use only
Trade
Bulls & China Shops
For internal use only Source: Bloomberg,
For internal use only
Back to Basics: Bid/Ask Spread
Sell at Bid, Buy at Ask
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Back to Basics: Bid/Ask Spread
Sell at Bid, Buy at Ask
Source: IndexUniverse, as of 2/16/13
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Different Asset Classes, Different Spreads
0.00% 0.10% 0.20% 0.30% 0.40% 0.50% 0.60%
U.S. Equity
International Equity
U.S. Fixed Income
International Fixed Income
Commodities
Currency
Leveraged
Inverse
Asset Allocation
Alternatives
All ETFs:
Median Spread %
Source: Markit, as of 12/28/12
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ETF Liquidity Explained:
Source: IndexUniverse, as of 2/16/13
Bid/Ask Spread
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Market Order: Buy 1000 Shares
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Market Order: Buy 1000 Shares
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How Big Trades Happen in Little ETFs
Creation/Redemption Refresh
What Goes into an ETF Spread?
ETF Arbitrage Bands
Special Situations
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ETFs, Inc.
?
How An ETF Works
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CSCO
AAPL
CAT
MSFT
IBM
$2.5 million
100K @ $25 ETFs, Inc.
Authorized Participant
ETF Anatomy: Creation/Redemption
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CSCO
AAPL
CAT
MSFT
IBM 100K @ $25 ETFs, Inc.
Authorized Participant
ETF Anatomy: Creation/Redemption
50K @ $25
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What’s in an ETF Bid/Ask Spread?
Underlying NAV
Brokerage Fees
Market Maker P&L
Creation Costs
Forex Hedging Costs
Taxes
Bid Price
Ask Price
Market Maker P&L
Brokerage Fees
Taxes
Forex Hedging Costs
Redemption Fees
Underlying Bid/Ask
Sp
read
ETF Spread
Source: SSgA.
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ETFs Should Trade Within Their Arbitrage Bands … Most of the Time
Source: Fox River Execution. Data as of 12/1/09. Source: Fox River Execution. Data as of 12/1/09.
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ETF Trading: D
iffi
cult
y
Size of Order
It’s Hardest In The Middle
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For internal use only
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0.00%
0.10%
0.20%
0.30%
0.40%
0.50%
9:30AM
10:00AM
10:30AM
11:00AM
11:30AM
12:00PM
12:30PM
1:00PM
1:30PM
2:00PM
2:30PM
3:00PM
3:30PM
IGV Spread Weighted Avg. Spread of Underlying Holdings
Issue: When to Trade IGV vs. Underlying
Source: Bloomberg, as of 10/19/12
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Ticker Fund Name Avg. Spread Median Volume
(40 Day)
Underlying Volume/Creation
Unit
FDM First Trust Dow Jones
Select MicroCap Index Fund
0.21% 4,260 0.33%
WMCR Guggenheim Wilshire
Micro-Cap ETF 0.71% 1,395 1.94%
IWC iShares Russell
Microcap 0.07% 66,708 0.38%
PZI PowerShares Zacks Micro Cap Portfolio
0.24% 5,925 0.19%
Issue: Market Impact
Source: IndexUniverse, as of 2/16/13
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For internal use only
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Issue: Fair Value - SPY vs. iNAV
$149.00
$149.50
$150.00
$150.50
$151.00
$151.50
1/30/2013 9:30 2/4/2013 16:00
Last Price iNAV
Source: Bloomberg, as of 2/4/13
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Issue: Fair Value - GXC
$67.00
$67.50
$68.00
$68.50
$69.00
$69.50
$70.00
$70.50
1/18/12 8:00 AM 1/30/12 4:27 PM
GXC Price
GXC iNAV
Source: Bloomberg, as of1/30/12
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Protests begin January 25, 2011.
Egyptian Stock Exchange closes January 27, 2011
Mubarak resigns February 11, 2011.
Exchange reopens March 23, 2011.
Issue: Premiums/Discounts - EGPT
Source: Bloomberg, as of 03/31/11
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7:42pmEST: Credit Suisse issues
press release announcing re-opening of the ETN
February 22, 2012 March 20, 2012
Credit Suisse halted creations on the VelocityShares Daily 2X VIX Short ETN, TVIX
ETN placed on “threshold list”
11:10amEST: TVIX premium reaches
almost 100%
0
5
10
15
20
Price NAV
Issue: Premiums/Discounts - TVIX
Source: Bloomberg, as of 03/31/12
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Issue: Premiums/Discounts - TLT
-0.80%
-0.60%
-0.40%
-0.20%
0.00%
0.20%
0.40%
0.60%
0.80%
1.00%
12/30/2011 12/31/2012
% P
rem
ium
/Dis
cou
nt
Source: Bloomberg, as of 12/31/2012
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110
120
130
140
150
160
170
180
190
-3.00%
-2.00%
-1.00%
0.00%
1.00%
2.00%
3.00%
11/14/2011 11/13/2012
Shar
es
Ou
tsta
nd
ing
(Th
ou
san
ds)
% P
rem
ium
/Dis
cou
nt
%Premium Shares Out
Issue: Premiums/Discounts - HYG
Source: Bloomberg, as of 11/14/12
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Executing Trades: Practical Strategies
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Reality: Trading is Complicated
Three Types of Trading for Advisors:
Entirely Self-Directed
Internally Assisted
“Trade Away”
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Self Directed: Level 2
Source: Bloomberg, as of 2/19/13 For internal use only
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Internally Assisted
Wide range of service levels Provide basic execution advice Enforce “blacklists” Source liquidity externally “Work” larger trades
Pros: Little information leakage, liquidity
access, expertise
Cons: Accountability and Best Execution not guaranteed
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“Trading Away”
Types of Firms
Market Makers / Authorized Participants Knight Capital Group Susquehanna International Group
Agency Brokerages WallachBeth ConvergEx
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AP/Market Maker Trade Date: January 30, 2013. For illustrative purposes only
Source: Goldman Sachs, as of 1/20/13
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Agency Brokerage
“Give me your best bid and
offer!”
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Executing Brokers – Sample APs
Largest ETF trader in the world Handles all ETFs Heavily focused on trading
technology
Institutional liquidity provider now targeting advisors
Heavy focus on fixed income Willing to work with captive customers
White-glove service Support of full firm’s resources Ability to trade on risk or in multiple
manners
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Specializes in derivatives, European equity ETFs
Excellent technology and hedging capabilities
Focusing on advisors Heavy focus on fixed income Strong liquidity provider outside of
market hours
Doesn’t have customers A market maker’s market maker
Executing Brokers – Sample APs
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Executing Brokers – Agency Brokers
Lead the charge of agency brokers Growing quickly and covers all ETFs Doesn’t do business with Knight
Subsidiary of Wolverine Broker neutral Technology driven
Bank of New York company Willing to support any ETF Growing technological platform
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Every Issuer Can Facilitate Liquidity
Optimizing Baskets
Customized Baskets
Accepting Cash in Lieu
Tightening Up Onscreen Spreads
Recommending Where to Route Trades
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Thank You.
Questions?