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How is an ETF’s price determined?​

An ETF’s price is determined by a combination of its net asset value (NAV) and market supply and demand. Here's a breakdown of how this works:

1. Net Asset Value (NAV)

  • Definition: The NAV of an ETF represents the per-share value of all the assets (stocks, bonds, commodities, etc.) within the ETF’s portfolio. It’s calculated by taking the total market value of the underlying assets, subtracting any liabilities, and dividing by the number of ETF shares outstanding.
    NAV = Total Value of Assets - Liabilities : Number of Shares Outstanding​
  • Frequency: NAV is generally calculated once a day at the end of the trading session. However, since ETF shares trade throughout the day like stocks, they do not always trade exactly at their NAV during market hours.

2. Intraday Market Price

While the NAV gives a baseline value, the ETF’s intraday market price fluctuates throughout the day based on supply and demand. Here’s how it works:
  • Supply and Demand: Like individual stocks, an ETF’s market price is driven by what buyers are willing to pay (demand) and what sellers are willing to accept (supply). If demand is high, the price may rise above NAV; if demand is low, the price may drop below NAV.
  • Authorized Participants (APs): Large institutional investors known as authorized participants (APs) play a critical role in keeping the ETF’s market price close to its NAV. APs can create or redeem shares by exchanging a basket of the ETF’s underlying assets with the ETF provider. This process, known as creation and redemption, balances the supply of ETF shares with demand and helps align the ETF’s price with its NAV:
    • Creation: If an ETF’s price rises above its NAV, APs can buy the underlying assets, create new ETF shares, and sell them at the higher market price. This increases supply, pushing the ETF’s price back toward the NAV.
    • Redemption: If an ETF’s price falls below its NAV, APs can buy ETF shares on the open market, redeem them for the underlying assets, and sell those assets. This reduces the supply of ETF shares, pushing the price back toward the NAV.
  • Intraday Indicative Value (IIV): To aid price alignment, ETFs also publish an intraday indicative value (IIV) throughout the trading day. IIV is a real-time estimate of an ETF’s NAV based on the current value of the underlying assets. This gives investors an idea of the fair value of the ETF as the day progresses, helping them make informed trading decisions.

3. Premiums and Discounts

  • Premium: If the ETF’s market price is above its NAV, the ETF is said to be trading at a premium.
  • Discount: If the ETF’s market price is below its NAV, the ETF is trading at a discount.
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AP activity generally keeps premiums and discounts minimal, but they can occur, especially in volatile markets or in ETFs holding less liquid assets (e.g., international or bond ETFs).

Factors Influencing an ETF’s Price
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  1. Underlying Asset Price Movements: Changes in the price of the securities within the ETF directly affect its NAV and thus its market price.
  2. Market Sentiment: Investor sentiment, influenced by economic data, earnings, or news, can lead to increased buying or selling activity, impacting the ETF price.
  3. Liquidity of the Underlying Assets: ETFs with liquid underlying assets tend to stay closely aligned with their NAV. Those holding illiquid assets may experience larger deviations from NAV.
  4. Market Volatility: During high volatility, premiums and discounts may widen as trading becomes more erratic, and market makers may have difficulty precisely aligning the ETF price with the NAV.

Summary

​An ETF’s price is driven by a combination of its NAV and supply-demand dynamics in the market. Authorized participants play a role in aligning the market price with NAV through creation and redemption processes, while the ETF’s market price also reflects real-time sentiment, investor activity, and underlying asset prices throughout the trading day.
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