The Nuts and Bolts of ETFs

An exchange-traded fund (ETF) is bought and sold like a company stock during the day when the stock exchanges are open. Unlike a company stock, the number of shares outstanding of an ETF can change daily because of the continuous creation of new shares and the redemption of existing shares. The ability of ETF companies to issue and redeem shares on an ongoing basis keeps the market price of ETFs in line with their underlying security values. An arbitrage mechanism ensures that the price investors pay for ETF shares is close to the true net asset value (NAV) of the underlying securities that make up the fund.

This chapter covers the operations and management behind ETFs, including important participants that make the ETF market efficient. It also covers the share creation and redemption process, the trading of ETF shares on exchanges, and the symbology used in the ETF industry. There is a lot of useful information packed into these pages.

Acts like a Fund, Trades like a Stock

Assume for a moment that you have decided to buy a Standard & Poor’s (S&P) 500 index fund. There are many funds available that track the return of the S&P 500, including open-end mutual fund and ETFs. You have narrowed your search down to two candidates: the open-end Vanguard 500 Index Admiral Shares (VFIAX) or the iShares S&P 500 ETF (IVV). How similar are these funds. and what makes them different from one another?

There are more similarities than differences between ...

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