How ETFs Are Priced
Ever wonder how ETF share prices remain in line with the current prices of the underlying stocks? The process is quite simple really although the execution might be quite complex.
First off, it's important to know that there are people who play the role of market makers. These people order the creation and redemption of ETF shares. An ETF share is built from the shares of the companies in the underlying index. Market makers create and redeem shares depending on the market demand for the ETF shares.
The trick is that market makers can create and redeem shares to arbitrage premiums or discounts to the underlying net asset value. As such, the price of the ETF constantly moves up and down pretty much in real-time with the prices of the underlying shares. A nice tidy, self-maintaining system that runs behind the scenes.