ICI Disagrees with Nasdaq on ETF Orders

ICI Disagrees with Nasdaq on ETF Orders November 23, 2012

The Investment Company Institute (ICI) and the Nasdaq Stock Exchange (NasdaqGS:NDAQ) have differing views about ETF order types.

Nasdaq put forth a proposal to implement ETF orders pegged to a fund's intraday net asset value or INAV. It further stated that any interruption in an INAV's data feed should trigger a suspension of orders.

The ICI highlighted a few problems with the Nasdaq's proposal via a rebuttal to the Securities and Exchange Commission (SEC) letter saying in part:

1) INAV is not a "fair value" estimate of the securities underlying the ETF. For U.S. component stock ETFs, this is usually, but not always, a good estimate of the value of the ETF. At times, particularly for securities that do not trade frequently, the last sale price may not be reflective of the security's value. Unlike a fund's end-of-day net asset value, INAV does not attempt to adjust for such variations.2) Some U.S. component stock ETFs may trade at a consistent premium or discount, which is not taken into account in the INAV calculation.  For example, ETFs, most often those that are niche-focused, may contain a number of stocks that are difficult - and therefore costly - to borrow.  This will make shares of the ETF more costly to create, since market makers often assemble a creation basket by borrowing the component securities. For these ETFs, market makers typically will wait for the shares to trade at a premium sufficient to cover these costs before creating shares and selling them into the market.  In such cases, an INAV pegged order to sell at INAV would likely disadvantage the seller, since the shares frequently trade at a premium to INAV

Among the ICI's other concerns are calculating errors.

Calculation agents and pricing vendors could be held liable by investors using INAV pegged orders for inaccuracies in INAVs, which could result in an increased cost or complete abandonment in disseminating the information. 

Comment letters on the matter are still being received and reviewed by the SEC.

"While we do not necessarily object to the creation of a new order type pegged to INAV, we recommend that the SEC request additional information from NASDAQ to further explore these questions and concerns, and consider the benefits of the proposed INAV pegged order, before determining whether to approve it," said Dorothy Donohue, the ICI's Deputy General Counsel.

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