Why An ETF Can Trade At A Discount To Its Index
Morningstar’s Paul Justice and Bradley Kay put together an informational video yesterday taking a look at price differences between fixed-income ETFs and their underlying indexes. Paul notes that there are some price dislocations, especially in the ETF space where indexes that are posted on ETFs are higher than what the ETFs themselves are trading at. Paul poses the question to Roger, “Can you explain why this tracking error is emerging with the ETFs compared to the index?”
Kay explains that, “A large part of that comes from some of the volatility that can occur in the fixed-income market that actually gets disguised in the indices. A lot of this comes from how they’re priced. When they do the prices, they are, say, taking a bid price and an ask price that’s out there on the fixed-income market, and they then take the midpoint of that as the price.
Now when you get great uncertainty or when there’s a lot of selling in the market, what happens isn’t necessarily that that midpoint moves a tremendous amount. Instead, you just get the spreads widening.”
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