By: Larry MacDonald
This is not supposed to happen in the world of exchange-traded funds (ETFs). Some rather large and persistent premiums to net asset value have emerged recently.
The affected ETFs are in the U.S. commodity sector. Of note, as mentioned in my Sept. 10 column on natural gas prices, is the United States Natural Gas ETF (UNG). Its premium first surfaced about a month ago and is now approaching 20%, according to blogger Sober Look.
Normally, ETF premiums (or discounts) are miniscule because of the arbitraging mechanisms behind ETFs. When there is a premium, new units are issued to large investors in return for a piece of their portfolios. The large investors then distribute the units to retail investors, capturing an arbitrage profit (until the premium disappears). Vice versa for when there is a discount in the ETF’s units.
But several ETFs tracking commodity prices have stopped issuing new shares. That’s because U.S. regulators are imposing limits on the positions they can take in the futures market. There are concerns on Capital Hill and elsewhere that the ETFs, previously exempt from trading limits, are pushing up commodity prices too much.
Hence, premiums to net asset value are accumulating as investors pour into the commodity ETFs and bid prices up. In effect, these ETFs are trading like closed-end funds at present. Buying them at this stage thus exposes the investor to the risk of incuring a loss in the event the premium evaporates (ceterus parbus).
3 Responses to “ Some commodity ETFs breaking down ”
The premium in UNG is NOT 20%. It is closer to 10%
By John Toddio on Sep 11, 2009
Insert “hedge fund” instead of “ETF” in the last sentence of the 4th paragraph and replace the date of publication from 2009 to circa 2004 and we have an example of how financial innovation taken to the extreme, regardless of product, tends to produce similar historical arcs.
By Thicken My Wallet on Sep 11, 2009