ETF Market Makers Are Dumping their Personal Stash of Illiquid Assets on ETF Operators Under the Guise of Providing Liquidity

According to a recent article written by Matt Levine, ETF market makers, or “Authorized Participants”, are dumping their own personal stash of illiquid high yield corporate bonds on ETF operators. These authorized participants have contracts with the ETF operators to create and redeem the ETF shares, and only they are allowed to do this. Nobody else can just go up to an ETF operator and buy and sell the ETF shares. Think of it like a wholesaler. Most of them are large financial institutions with their own asset management divisions.

To put it into layman’s terms, the market maker is basically saying, “Hey, I’ve got a bunch of junk bonds that nobody else would ever dream of buying right now because the entire market is in free fall, so I’m just going to sell massive quantities of these highly illiquid assets to you”.

An AP’s job is to make sure the value of the ETF corresponds with the underlying security by managing supply and demand, not to use the ETF operator as a place to dump their own personal holdings because they can’t get rid of them anywhere else.

Is this fair? No, but remember, this is Wall Street we are dealing with. To steal a quote from the Sopranos, “What do you think this is, the f***g United Nations or something?” Read more

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