From David Galland in The Casey Report:
Dr.Andrew Bogan is a managing member of Bogan Associates, LLC in Boston, Massachusetts. He has spoken at many international investor conferences – his specialty being global equity investing – and has been interviewed on live television for CNBC's Strategy Session.
In an attempt to understand the relatively new but wildly popular Exchange Traded Funds (ETFs), Dr. Bogan did extensive research into the structures used by ETF operators, with a special focus on the potential risks that might arise should they be faced with large and sudden liquidations. Given that there are about 2,000 ETFs in existence, with assets totaling over $1 trillion, we thought it appropriate to find out what Dr. Bogan has learned in his research.
David Galland: Our primary goal today is to give readers a better understanding of exchange-traded funds (ETFs) and the risks that come with them. Speaking personally, I've been in this business for a long time, and I find anything that grows as quickly as ETFs have a bit worrisome.
To begin, maybe you could just talk a little about the difference between an ETF and a traditional stock or bond mutual fund.
Andrew Bogan: Yes. Shares in a traditional mutual fund, whether it's an index fund or has a managed portfolio, don't trade in the open market. If you want to own shares, you buy them from the fund. If you want to get rid of your shares, you sell them to the fund.
A traditional mutual fund takes its shareholders' capital and invests it directly on a one-to-one basis in stocks or bonds and holds those securities in custody. Thus it's always 100% reserved, meaning that the securities it owns correspond exactly to the shares its investors own. If you want your capital back, the fund can deliver it to you either in kind or in cash, depending on market conditions.
That's not the case with an ETF...
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More on ETFs:
Four ETF pitfalls to avoid
What you need to know before buying the new silver ETF
These ETFs can be a valuable tool for contrarian investors
