LOS h: Discuss the advantages of exchange-traded funds (ETFs) and explain the pricing of international ETFs in relation to their net asset value (NAV).

Q1. A primary reason for trading in Exchange Traded Funds (ETFs) is that ETFs can:

A)   be shorted and margined.

B)   create arbitrage opportunities for astute investors.

C)   increase international diversification with high liquidity at higher costs.

Q2. Arbitrage opportunities for investors are not generally available to Exchange Traded Funds (ETFs) because the ETF:

A)   brokers engage in arbitrage opportunities to ensure that the ETF’s net asset value (NAV) and the inventory of their foreign shares are closely aligned.

B)   traders engage in arbitrage opportunities that do not allow investors to profit from such opportunities.

C)   exchange specialist engages in arbitrage opportunities to ensure that the ETF’s net asset value (NAV) and the listed shares are closely aligned.

Q3. Exchange Traded Funds (ETFs) differ from closed-end country funds because ETFs:

A)   require an exchange specialist to act as a market maker, while country funds do not.

B)   adjust slowly to changes in market trading time zones, while country funds do not.

C)   require a financial institution to hold shares in a country, while country funds do not.

LOS h: Discuss the advantages of exchange-traded funds (ETFs) and explain the pricing of international ETFs in relation to their net asset value (NAV). fficeffice" />

Q1. A primary reason for trading in Exchange Traded Funds (ETFs) is that ETFs can:

A)   be shorted and margined.

B)   create arbitrage opportunities for astute investors.

C)   increase international diversification with high liquidity at higher costs.

Correct answer is A)

Some advantages of utilizing ETFs are:

§   ETFs achieve international diversification with high levels of liquidity at a minimal cost.

§   ETFs are tax efficient due to very low portfolio turnover.

§   ETF can be shorted and margined.

Q2. Arbitrage opportunities for investors are not generally available to Exchange Traded Funds (ETFs) because the ETF:

A)   brokers engage in arbitrage opportunities to ensure that the ETF’s net asset value (NAV) and the inventory of their foreign shares are closely aligned.

B)   traders engage in arbitrage opportunities that do not allow investors to profit from such opportunities.

C)   exchange specialist engages in arbitrage opportunities to ensure that the ETF’s net asset value (NAV) and the listed shares are closely aligned.

Correct answer is C)         

Acting as an authorized agent, the ETF exchange specialist engages in arbitrage opportunities to ensure that the ETF’s NAV and the listed price are closely aligned. The specialist will post bid and ask prices with very narrow spreads in the electronic order book to ensure close pricing between the ETF and the underlying NAV.

Q3. Exchange Traded Funds (ETFs) differ from closed-end country funds because ETFs:

A)   require an exchange specialist to act as a market maker, while country funds do not.

B)   adjust slowly to changes in market trading time zones, while country funds do not.

C)   require a financial institution to hold shares in a country, while country funds do not.

Correct answer is A)

Exchange specialists act as market makers for ETFs. The ETF specialist is considered to be an authorized participant by the ETF-sponsored fund companies. Acting as an authorized agent, the specialist engages in arbitrage opportunities to ensure that the ETF’s net asset value (NAV) and the listed price are closely aligned. The specialist will post bid and ask prices with very narrow spreads in the electronic order book to ensure close pricing between the ETF and the underlying NAV.

Closed-end country funds do not have any of the above characteristics.