Wednesday, 6 June 2012

ETF Securities replies to "spreads widen dramatically" claim

ETF Securities has replied to Gold ETF Investor's questions about spikes in the spreads (trading costs) of one of its most traded physical gold ETFs.

Figures produced by London Stock Exchange each week calculate 'time weighted' spreads. In the week ending 13 April 2012 a handful of ETF Securities products saw their spreads spike.

Those listed by Gold ETF Investor were:

PHGP: up to 1.26% from 0.14%
SGBS (ETFS Physical Swiss Gold): up to 2.41% from spreads between 0.25%-0.6%
PHSN: up to 14% up from 2.3% the week before.

All of these are ETF Securities products and PHGP is popular physical gold ETF used by UK retail investors.

A spokesman for ETF Securities said that the firm's calculations for the same period were different to those of the London Stock Exchange, a lot lower at:

(PHGP) 0.16%
(SGBS) 0. 50%
(PHSN) 2.15%

The spokesman offered this explanation: "Thanks for your email. According to our calculations, the weekly spreads for these products were 16, 50 and 215 basis points, respectively, for that particular week.

"We suspect the issue is linked to the automated calculation methodology of the LSE.

"Where a bid price is not available, even for a few moments, the LSE’s algorithm will automatically calculate the spread between the offer price and zero, which obviously generates a temporary spread of 10,000 bps, or 100%.

"If this happens frequently enough within a given time period, the spread may appear to be inflated.

"You may want to contact the LSE for more information if any of this is unclear. I thought you may also like to see the following article in IndexUniverse which addresses this topic:"

I read the article and it did address the point but didn't claim to get to the bottom of the problem or how badly it might affect retail investors in the UK. Paul Amery's article identified similar problems with iShares ETFs during the 'flash crash' last year and discussed the findings of Australian regulators.

His investigation also showed that the spreads of products trading on the London Stock Exchange had been exaggerated by the issue of bid prices falling to zero- just as ETF Securities points out. This raised the question of why market makers hadn't been offering prices when they were (it appeared) legally obliged to do so.

In the piece Amery said there were two technical get-out clauses for market makers: Rule 4102 and Rule 4110.

However, in the example explored by IndexUniverse, the LSE ruled out the use of rule 4110 and wouldn't comment on 4102 - possibly implying that  4102 was the culprit. But it seems unlikely that Rule 4102 could apply in this case of one physical gold ETF.

The rule requires at least 10% of an ETF's underlying securities to have no "firm" price. This is not likely when the underlying 'security' is 100% physical gold and none of the other physical gold products seemed to be having this  problem.

Another big problem.

Amery's article starts off by pointing out that Australian regulators (ASIC) had spotted problems for retail ETF investors and were worried that they were paying over the odds.

ASIC said: “In some cases ASIC has found examples of ETF prices quoted by online stockbrokers that are significantly above or below the value of the assets that the ETF holds. The risk is that you might pay far more than the ETF’s assets are worth, or sell ETFs at a price far below the value of their assets.”

In other words they weren't checking the value of their ETFs against the values being offered by some market makers.

I don't know if this is evidence of exactly this problem occuring with PHGP:

ASIC suggested that investors check the price offered against the net asset value (NAV) of the fund. Unfortunately there is no NAV provided for PHGP because it is essentially PHAU with a currency conversion.

It means that investors have to check the dollar version looks right and then make a currency calculation. The platform I use to buy PHAU - Hargreaves Lansdown - tells me how much I have paid in pounds sterling but shows neither the dollar value of the shares being sold or the conversion rate. Meanwhile an investor has 15 seconds in which to work this out for themselves.

Moves during market volatility.

The hitches with spreads in gold ETFs seem to happen when the gold price is moving sharply. So, in theory, the issue may have occurred again when gold prices surged on Friday. We'll see when the figures are released later this week.

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