Monk's Den

[AlanC]

You may want to bring this over to the Den as I am sure all Monksters will find it interesting:

December 7, 2010, 2:00 PM ET Can Naked Shorts Collapse An ETF?
By Murray Coleman
In his latest column, Ian Salisbury of Dow Jones Newswires looks at charges by the Kauffman Foundation and Bogan Associates arguing that ETFs pose “systemic risk” to markets and could fall apart.

The heart of the problem, notes Salisbury, is the fear of what naked shorts will do in extreme market conditions. Those are investors who take short positions by selling shares they don’t actually own — they’re supposed to borrow them first.

“Naked shorting poses a potential problem for ETFs, these critics say, because of ETFs’ standing invitation to investors to cash in ETF shares and receive the fund’s underlying stocks in return,” Salisbury writes.

The concern is that naked short-selling has “created large blocks of ‘phantom’ ETF shares not actually secured by stocks in the funds,” he adds.

http://blogs.barrons.com/focusonfunds/2010/12/07/can-naked-shorts-collapse-an-etf/

“At the heart of the dispute is what happens if investors that hold these ‘phantom’ ETF shares try to redeem them for stocks–potentially at the same time that investors that hold “true” ETF shares are trying to do the same thing.”

Morningstar has also written extensively about the topic.

Analyst Bradley Kay’s piece is aptly titled: “Your ETF Will Not Collapse.”

We’ve also weighed in on the debate a bit as well.

So has MarketWatch’s John Spence, who also looked at May’s ‘flash crash’ and subsequent distortions that impacted ETFs. Those included the The iShares Russell 1000 Growth ETF (IWF), the SPDR S&P 500 (SPY) and the the iBoxx Investment Grade Corporate Bond Fund (LQD), among others.