Exchange-Traded Funds (ETFs)
First created in 1993, exchange-traded funds (ETFs) are a basket of assets, usually selected to track an index of stocks, like the S&P 500 or the Dow Jones Industrial Average. ETFs trade on an exchange like a security. Like closed-end funds, ETFs are not actively managed and ETF shares are usually not redeemable.
An ETF is created by an ETF sponsor, usually an investment company, which selects an underlying index of securities and then looks to a market maker or large institutional investor to provide the securities to fill the fund. Called an authorized participant, this large investor will acquire the securities needed and deliver them to the ETF sponsor in exchange for a large block of ETF shares, called a creation unit. Creation units usually come in blocks of 50,000 shares but may be smaller or larger. The authorized participant then sells these shares in the secondary market to individual investors.
Suppose, for example, an investment company wants to create an ETF that will track the Russell 2000 Index. This ETF sponsor will file its plan with the SEC. After receiving the SEC’s approval, the sponsor will search for a large institution to deliver the securities needed to track the index. Out of its own inventory or by purchase, the authorized participant will c