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Minyan Mailbag: ETF Trading

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Note: Our goal in Minyanville is to remove intimidation from the financial markets and encourage an interactive dialogue among the Minyanship. We share this next column with that very intent.

Professor,

Hard to know how to use this info. Yesterday on Interactive Brokers, the system wouldn't allow me to short SPY (Reg SHO). They are a frontline direct access broker and SPY obviously has incredible liquidity.

I found this VERY peculiar, never seen it before. Doesn't seem to be an issue today.

Minyan Ron

Ron,

SPY, like any other ETF, is a trust receipt. They must be "created" by the trust in order for them to be traded.

When a SPY is bought in the open market, there is a seller and there is no problem.

When a SPY is shorted it must be borrowed. But in general there are not enough SPYs created beforehand in order for this to occur. The "borrow" then may look initially tight, but all that needs to happen is for it to be created when new shorts want to sell. So quite often your broker may say that they are hard to borrow, but this is misleading. You must merely check and locate first so that the trust can create new receipts to borrow.

The reason for this is that index funds, which turn in their stocks (balanced perfectly to the SPY) into the trust and receive receipts back in order to "lend" them, really do not want to do so ahead of time. They don't really want people buying SPYs in lieu of index funds, so they must be paid to do so. The trust always goes to them and "pays a fee" when wanting to create receipts.

The index fund will always respond because these fees are part of their normal income (now). But they are not pro-active in this activity.

Regards,
Prof. Succo

No positions in stocks mentioned.

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