Macro Morsels May 3rd 2018
Comment of the Day

May 03 2018

Commentary by Eoin Treacy

Macro Morsels May 3rd 2018

Thanks to a subscriber for this edition of R.Harding’s report for Maybank. Here is a section on ETF composition and trading:

Eoin Treacy's view

Here is a link to the full report.

Here is a section:

Facebook constitutes a large part of many passive investments. According to, Facebook is one of the Top 15 holdings of 106 different ETFs. 

Added up, their exposure to Facebook constitutes approx. $1 trn. Its current total market cap is only half that. 

ED: I don’t understand that last sentence,as I thought ETFs matched the performance of the underlying Index so how come ETFs own a supposed 1 Tril worth of FB,when its market cap is 500bn? Especially as there many Long only investors owning FB too. If anyone can enlighten MM, he would be most grateful.(apart from saying it’s all down to Delta hedgers)

Now, the holders of these ETFs might not move their positions all that much. But the market makers have to adjust their positions as the price moves. They are committed to tracking the underlying index. It’s like a shadow of the $ 1trn is just sitting there, having to trade each time Facebook’s share price moves.

If someone sells an ETF in the secondary market to one of the market-makers, then they have to lay off the risk as cheaply as possible. A computer is usually involved. It’s a simple algorithm. If Facebook is the biggest weight in the index, then cover that risk first.

The tracking mechanism of the ETF therefore creates a multiplicative effect. That’s why prices are moving more than we might otherwise expect, under “normal” circumstances. The amount of daily volume linked to passive investments is rising.

As Credit Suisse noted, 40% of all trading volume now takes place in the first and last 30 minutes of the trading day, compared to 31.5% a decade ago.

With prices moving around more, liquidity is at a premium. That’s why we can get the 3rd worst weekly loss for Facebook taking place without the 3rd biggest weekly volume.

ETFs have been a wonderful financial innovation which have reduced upfront costs for investors and greatly increased the availability of different markets for investment. However, the size of the market, which is by definition a derivative of the total market, represents a challenge for investors particularly when so many funds employ leverage and depend on the credit worthiness of the issuer.

The collapse of the short VIX trade earlier this year which coincided with the medium-term peak reached by Wall Street is an example of the outsize effect the ETF market can have on the market. This is something of a side issue outside of major market tops but in a panicky situation liquidity is at a premium and ETFs have difficulty maintaining accurate pricing in such circumstances.

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