Podcast
Questions and Answers
What is one primary reason designated brokers might withdraw ETF units from the market?
What is one primary reason designated brokers might withdraw ETF units from the market?
How do designated brokers typically earn their income from ETFs?
How do designated brokers typically earn their income from ETFs?
Which benefit does the in-kind exchange process provide to the ETF provider?
Which benefit does the in-kind exchange process provide to the ETF provider?
What distinguishes ETFs from mutual funds regarding trading costs?
What distinguishes ETFs from mutual funds regarding trading costs?
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What major feature characterizes the creation and redemption process of ETFs?
What major feature characterizes the creation and redemption process of ETFs?
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Which of the following statements regarding trading costs is incorrect?
Which of the following statements regarding trading costs is incorrect?
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What is a primary concern for ETF index funds focused on a small number of components?
What is a primary concern for ETF index funds focused on a small number of components?
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Why might an investor decide to purchase individual securities instead of an ETF?
Why might an investor decide to purchase individual securities instead of an ETF?
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What differentiates the RWL ETF from a typical S&P 500 Index ETF?
What differentiates the RWL ETF from a typical S&P 500 Index ETF?
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What is a risk associated with the practice of securities lending by ETFs?
What is a risk associated with the practice of securities lending by ETFs?
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How can different weighting methodologies impact ETFs that use the same underlying stocks?
How can different weighting methodologies impact ETFs that use the same underlying stocks?
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What can significantly influence investors' expectations regarding ETF performance?
What can significantly influence investors' expectations regarding ETF performance?
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What is a potential drawback of fixed payments for investors?
What is a potential drawback of fixed payments for investors?
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Which of the following correctly describes a variable payment?
Which of the following correctly describes a variable payment?
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What is a characteristic of covered call ETFs regarding fees?
What is a characteristic of covered call ETFs regarding fees?
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How do covered call ETFs provide some downside protection?
How do covered call ETFs provide some downside protection?
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What general risk is NOT typically associated with investing in exchange-traded funds (ETFs)?
What general risk is NOT typically associated with investing in exchange-traded funds (ETFs)?
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What should investors look for to avoid depleting principal over time?
What should investors look for to avoid depleting principal over time?
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In relation to covered call strategies, what characterizes the selection of options?
In relation to covered call strategies, what characterizes the selection of options?
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What specific risk category does NOT apply to ETFs that use derivatives or leverage?
What specific risk category does NOT apply to ETFs that use derivatives or leverage?
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What is the primary risk associated with the performance of an ETF compared to its underlying index?
What is the primary risk associated with the performance of an ETF compared to its underlying index?
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Which of the following represents a factor that can contribute to tracking error in an ETF?
Which of the following represents a factor that can contribute to tracking error in an ETF?
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Which type of ETF is more likely to experience significant tracking error?
Which type of ETF is more likely to experience significant tracking error?
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What does a negative tracking error indicate about an ETF's performance?
What does a negative tracking error indicate about an ETF's performance?
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Why might an investor prefer ETFs over mutual funds?
Why might an investor prefer ETFs over mutual funds?
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Which of the following could be considered a concentration risk specific to certain ETFs?
Which of the following could be considered a concentration risk specific to certain ETFs?
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What is a potential issue with niche ETFs that may affect their price stability?
What is a potential issue with niche ETFs that may affect their price stability?
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How does the in-kind creation and redemption mechanism benefit ETF pricing?
How does the in-kind creation and redemption mechanism benefit ETF pricing?
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What does the term 'sampling methods' refer to in the context of ETFs?
What does the term 'sampling methods' refer to in the context of ETFs?
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What is the typical effect of fees and expenses on an ETF's performance compared to its benchmark index?
What is the typical effect of fees and expenses on an ETF's performance compared to its benchmark index?
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Study Notes
Designated Brokers and ETFs
- Designated Brokers are responsible for creating and redeeming ETF units.
- They may remove ETF units from the market due to declining demand or to take advantage of arbitrage opportunities.
- Designated brokers earn profit by buying cheaper ETF units and exchanging them for the securities, then selling the higher-priced securities.
- Their trading costs are typically covered by the bid/ask spread.
- Creation and Redemption Process: involves buying and selling ETF units and exchanging them with the ETF provider for the ETF's underlying securities. This process is known as an in-kind exchange, exchanging a basket of stocks for ETF units, not cash.
ETFs and Mutual Funds
- ETFs have lower MERs than mutual funds because designated brokers normally pay trading costs and fees associated with the purchase and sale of the underlying securities.
- With Mutual Funds, all unitholders pay the costs associated with a single investor's trading instruction.
Covered Call ETFs
- Covered call ETFs generally have higher MERs and trading expense ratios compared to other types of ETFs.
- BMO Covered Call Canadian Banks ETF is an example; it provides exposure to a portfolio of Canadian banks while earning call option premiums.
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Risks:
- Fixed payments can deplete capital if the sources of the fund's yield are not sufficient to cover the payment.
- Variable payments can fluctuate significantly depending on market conditions and the strategy executed.
Risks Specific to ETFs
- Tracking Error: the difference between the return on the underlying index and the return on the ETF. It can be positive or negative.
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Sources of Tracking Error:
- Fees and Expenses: management fees, trading expenses, and operational expenses.
- Sampling Methods: ETFs may not hold every security in the index, particularly bond index ETFs.
- Concentration Risk: ETFs are concentrated in a smaller number of components. It may be more efficient to buy the individual securities held in the ETF instead.
- Composition of the ETF: Different ETFs can represent different components of the market, even within the same sector.
- Securities Lending: Equity ETFs may lend their shareholdings to investors who wish to short sell certain equity issues. This poses risk related to creditworthiness of the money market securities bought and received and the default risk of the share borrower.
Benefits of ETFs
- Tactical Asset Allocation: ETFs allow for quick and diversified exposure to targeted asset classes.
- Cash Management: ETFs allow investors to temporarily park their money in the stock market until they can make a long-term investment decision.
- Exposure to Hard-to-Access Markets: ETFs provide access to hard-to-access asset classes.
- Tax Loss Harvesting: ETFs can be used to harvest tax losses on an investment.
Mutual Funds of ETFs
- A type of mutual fund that holds a portfolio of ETFs, rather than stocks and bonds.
- Offer the benefits of PACs and SWPs, in addition to advisor compensation options that are standard with most mutual fund offerings.
- They have a higher cost than standard ETFs.
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Description
Test your knowledge about Designated Brokers and their role in the creation and redemption of ETFs. This quiz explores the differences between ETFs and mutual funds, including their cost structures and trading processes. Dive into the mechanics of ETF transactions and enhance your understanding of the market.
