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Volume Vs. Liquidity

Low trading volume of an ETF does not mean poor liquidity

The daily trading volume of an ETF is not an accurate reflection of its liquidity. This is a result of the involvement of the designated market maker whose core responsibility is to maintain an inventory of units of the ETF and provide liquidity for investors to buy and sell when they choose to do so, without concern. The market maker ensures there is always a buyer or seller for the investor at an accurate price.

The designated market maker will also attempt to maintain a tight bid/ask spread so that the price of the ETF closely approximates the net asset value (NAV) per unit throughout the trading day.

Generally, the only factor which could affect the liquidity of an ETF is the liquidity of its underlying portfolio of securities. That is to say, if the ETF invests in securities that are difficult to buy or have low supply, then the market maker may have difficulty buying or selling those securities. This could affect their ability to subscribe for, or redeem, units of the ETF.

Generally, ETFs in Canada have portfolios that are restricted to investing only in liquid securities that trade on North American exchanges, which generally ensures that the price of the ETF closely reflects the value of the underlying portfolio.

Market orders are not always executed at the listed bid/ask prices

There is no guarantee that the order you place with an online broker or advisor will be executed at the listed bid/ask prices. This is one of the reasons why it is highly recommended that investors use a limit order when buying or selling ETFs, regardless of the size of the order.

A limit order sets a price maximum/minimum with which you are willing to buy or sell a quantity of units of the ETF. This protects you from periodic price swings that may occur during the trading day and allows the market makers time to fill your order if the size of the trade is larger than the posted units, which are the number of available units being shown on the exchange.

Prices can even move substantially between when an order is placed and when it is executed, particularly if there is breaking news in the market on a particular sector or security within the ETF’s portfolio.

By using a limit order, you can specify the exact price at which your trade order can be filled. If the bid/ask prices or NAV per unit do not meet the limit order specified price, the order will not be filled. With a limit order, you do not have to worry about buying or selling the ETF at a price you were not expecting.


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