However, because ETFs trade on an exchange, they also have a current market price—which could be more or less than its actual value. However, when financial markets become more volatile, ETFs quickly reflect changes in market sentiment, while NAV may take longer to adjust—resulting in premiums and discounts. This can happen throughout the trading day, because the ETF and its underlying securities are actually two distinct liquidity pools that are only loosely linked.

If optimistic investors start aggressively bidding up an ETF—more so than its underlying securities—the price of the ETF may rise faster than the price of its underlying securities and, consequently, may trade at a premium.

Similarly, if pessimistic investors aggressively sell an ETF—more so than its underlying securities—the ETF may trade at a discount. Imagine a sumo wrestler escaping through a small window. Alternatively, premiums or discounts may arise because the ETF and its underlying securities trade on exchanges that are in different time zones. Consider the scenario of ETFs listed on the NYSE that track the FTSE The price of these ETFs will reflect real-time changes in market sentiment, while NAV will be based on stale prices from the earlier LSE close.

In this case, any significant deviation between ETF price and NAV will likely vanish when both exchanges are open at the same time.

That said, not all premiums and discounts quickly self-correct; some persist for a variety of reasons.

For an authorized participant AP to create or redeem shares quickly, he or she needs access to the underlying securities—which is not always possible. See " Understanding Premiums And Discounts. Sometimes access is just a time challenge: For ETFs holding international securities, there could be a delay before the AP is finally able to access the underlying market and effectively create or redeem ETP shares—the delay can lead to temporary premiums and discounts.

Other times, restricted access to the underlying securities could be symptomatic of more serious structural problems. Depending on the severity, the issuer may even have to halt the creation of new ETF shares. During the Arab Spring, for instance, ETFs tracking the Egyptian markets shuttered, leading to wild swings in the perceived premiums of those ETFs. In these cases, the ETF effectively starts trading like a closed-end fund, and can trade at constant premiums until creations are resumed, when such premiums usually vanish.

The important thing to remember is that ETFs generally trade close to their fair value, and premiums or discounts tend to be short-lived. Lastly, use limit orders set close to NAV to prevent buying at a large premium or selling at a large discount. View the discussion thread. The founder of Vanguard and a well-known proponent of low-cost index investing boils down 65 years of experience into seven easy tips. Skip to main content.

Understanding Premiums And Discounts. Confusing as it seems, ETFs have more than one "price. How Are Premiums And Discounts Corrected? ETF Education ETF Trading.

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