Are Your Clients at Risk of Being “Fleeced” When You Buy & Sell ETFs?
By Louis Navellier
Advisors I speak with are always surprised when I bring up the inherent instability of ETF NAVs. I get the impression that advisors recommend these instruments to their clients based on their supposed price stability versus the market. This is a dangerous assumption.
I am not the only one who feels that ETFs are less reliable than they appear. I have noticed recently that CNBC has been pointing out that many specialty ETFs are now lagging the overall stock market. The explanation is simple — that investors typically must pay a premium to buy an ETF and a discount to sell an ETF. When these ETF premiums and discounts are 1 or 2 cents per share, no one really cares about these trading costs. However, with the explosion of specialty “theme-oriented” ETFs, investor returns are taking a hit. Far too many blockchain and marijuana-related ETFs are routinely trading at 15% to 30% premiums to Morningstar’s “Intraday Indicative Value” (i.e., net asset value).
The issue here for advisors and their clients is not the product or the underlying investments, but the trading systems used to create NAVs. When a product becomes illiquid due to inefficient/unfair trading practices we all need to take warning.
Essentially, advisors need to be aware of two important factors related to ETFs. First, during fast, volatile market conditions like we have experienced recently, ETFs premiums/discounts typically widen, and it is much more expensive to buy or sell them. Second, many “theme-oriented” ETFs have become problematic, since the 15% to 30% premiums they demand have for all practical purposes become cost-prohibitive and truly ridiculous to pay.
Interestingly, I have noticed that Morningstar has stopped publishing an Intraday Indicative Value for a leading marijuana ETF, namely the ETFMG Alternative Harvest ETF (MJ), so investors have no idea of the premium/discount to NAV when they buy and sell this ETF. This is a very disturbing development, because this ETF is buying thinly traded Canadian stocks and if Morningstar cannot calculate its “Intraday Indicative Value” (i.e., net asset value or NAV), an advisor has no idea of how much their clients are being “fleeced” by excessive premiums/discounts to NAV. Here are links to a detailed Navellier white paper on ETF trading:
READ WHITEPAPER: The Evolution and Mutation of ETF Sharks Since October 2016
I want to stress that I am NOT anti-ETFs and my management company has four 5-star ETF managed portfolios…see link:
CLICK TO VIEW CHART
At Navellier, we do not like to pay excessive premiums/discounts to buy and sell ETFs. As a result, sometimes we have to “wait to trade” ETF when premiums/discounts are extraordinarily high, such as they were in August 2015 (major intraday flash crash), September 2016 (Brexit aftermath) and in February 2018 (inverse VIX option failure in Exchange Trades Notes).
The bottom line is ETFs are very delicate and not always liquid, so excessive premiums/discounts all too often emerge during fast market conditions. My biggest fear is that the new RoboAdvisor ETF programs could exasperate any market sell off since the discount to sell ETFs could widen dramatically if too many RoboAdvisors try to sell at the same time, which we discussed in the following white paper:
READ WHITEPAPER: How the Robo Advisor Revolution May Be Leading to An Impending Disaster
Overall, ETFs are great investment vehicles when properly executed at minimal premiums/discounts. Always check Morningstar’s “Intraday Indicative Value” to make sure that you do not get “fleeced” when buying and selling ETFs. Let’s all hope and pray that RoboAdvisor programs do not all rush for the exit and the same time and widen the discounts that investors have to pay to sell ETFs.
It’s just as important to manage the buying and selling of ETFs as it is to decide which areas to invest in. Advisors need a partner who understands the NAV issues facing many ETF investments, so they can mitigate the pricing risk for their clients.