ETF Liquidity & Trading

Common Myths, Best Practices, Better Execution

Observation
Volume

Myth
1. Average Daily Volume looks very light so the ETF must be illiquid and difficult to trade.

Best Practice
ETF liquidity is driven off the liquidity of the underlying securities not ETF printed volume. ETFs can issue new shares and therefore offer additional liquidity as frequently as necessary. Authorized Participants use the creation/redemption process to facilitate trading and satisfy market demand.

2. The last traded price for the ETF is

Last traded price is, simply, the last traded price.

Each trade is independent and has its own unique characteristics that should not affect any trade that follows. These characteristics include time of trade, market levels, trade instructions, etc. The last price will not give you the best indication of the fair value of an ETF.

Price

close to the price that I should expect to pay or receive for my trade.

3. Last price is a good representation of the true value of the ETF.

Investors should reference the ETF IIV (ticker.IV)

If the trade is relatively small, the quote depth offered by the specialist volume visible on the screen should be wide enough to handle orders of 10K and below. Trades should be executed as limit orders (not market orders) and investors should avoid exceeding the quote depth and trading at the open or close Large orders do not have to be full creation/redemption block size. Market makers/APs will facilitate trades of 10K and above. The current position of their book will determine whether they create or redeem APs and market makers have no preference for buys or sells. These counterparties profit on the spread and will hedge either side of the position 2

4. I need a full creation block to get an AP to create and offer lower trading cost.

Size

Side

5. I should be able to access liquidity for my buy order but will not be able to access the same liquidity for my sell orders.

ETF Trading Process

Firm Size/Type

ETF Liquidity is Based on Liquidity of Portfolio Components

Trading Characteristics
Typically trade using sell-side institutional desk Have complete access to all sources of liquidity No trade limitations

ETF Trade Size

Execution Strategy
Contact third-party Institutional Program, Block and/or ETF desks Can also contact Market Maker/ Authorized Participant (AP)1 directly (need not be full creation unit size) May also want to shop around amongst multiple Market Makers for best quote Strategy is to target the NAV

Large
(e.g., Institution, Wirehouse Financial Advisor)

Large
(e.g., >25K Shares)

Medium
(e.g., Larger RIA)

Typically trade through Custodian (e.g. Schwab, Fidelity) May have option to trade away May have trading systems Will likely need to pro-rata allocate shares to numerous accounts Typically trade through Custodian (e.g. Schwab, Fidelity) Unable to trade away No trading systems Limited staff Pro-rata allocations may be necessary

Medium
(e.g., 10K-25K Shares)

Work with broker-dealer (B-D) arm of Custodian to access market maker liquidity Provide B-D with list of market participants/APs Certain 3rd party trading firms can also do step-out trades2 if advisor cant trade away Strategy is to target the NAV

Small
(e.g., Small-Mid RIA)

Small
(e.g., <10K Shares)

Work the block through 2-3 limit orders within quote depth (approx. 5K shares) Price order(s) within bid/ask but note ETF IIV (ticker.IV)3 Update limit price as market moves Avoid exceeding quote depth to minimize any market impact Avoid trading at open; wait for entire basket to start trading
For more information please contact IndexIQ: Julie Abbett, SVP and Head of Portfolio Management jabbett@indexiq.com 914-697-4934

1Authorized 2 3

Participants are typically large sell-side institutions, primarily market makers or specialists, responsible for the creation and redemption of ETF shares

Step-out trades allow the client to access market maker liquidity through a third-party trading firm without trading away from the custodian An Intraday Indicative Value (IIV) is published by NYSE for each ETF as a proxy for intra-day NAV