ETFs Are A Scam?

June 10, 2009

Another wise guy takes pot shots at all ETFs and finds an audience in a sea of misinformation.

Yesterday, I was forwarded a blog that was published on Seeking Alpha (where we sometimes publish our own blogs). The author of the article is a certain bow-tie-wearing blogger named Neil George.

Here is a link to the blog—“Why ETFs Are A Scam”—in its entirety. It's really must-reading.

The article is so full of misleading information and flat-out factual errors that it is hard to know where to begin.

Let’s start with the first line of the email from the person who forwarded the blog to me (a friend who I know buys ETFs and works around the ETF business). He says, “This guy has some valid points.”

Unfortunately, when I forwarded it around to my email colleagues, my first line was, “This guy is a nut case.”

Because I honestly believe that George’s blog post, and his line of thinking in general, is symbolic of a grave danger to the ETF industry, and one that is largely not being addressed.

We’ll get to that in a minute, but first let’s address the crazy parts.

After a 300-word intro that complains mostly about how much ETFs advertise, Mr. George starts his campaign of obfuscation:


"An Exchange Traded Fund might have a great name on the outside – but most investors will never, ever be able to find out what’s actually inside them.

That’s because the folks that build and run ETFs will only release what’s really in them to the specialist traders that sign on to make markets in them."


This is not just wrong; it’s insane. George is taking the most transparent fund structure in the world and saying it’s a shadowy scam. To me, that’s like saying “Up is Down. Up is Down!”

Want proof? Here’s what I get when I go into and click on a link called “View all holdings” for their iShares DJ Financials ETF (NYSE Arca: IYF):

I get, er, all the holdings.

And here’s the list of all the holdings for the SPDR S&P World ex-US ETF (NYSE Arca: GWL). Or the Vanguard Large Cap ETF (NYSE Arca: VV).

In fact, I can do this for every single plain-vanilla equity, bond or commodity ETF listed in the
United States. That means that, for more than 700 of the 800+ ETFs in existence today, you can access the exact holdings of the funds, full stop, on a daily basis.

The only funds that lack this kind of full disclosure are the leveraged, inverse and inverse-leveraged ETFs. I would argue that these are more accurately called exchange-traded products (or ETPs) rather than exchange-traded funds (or ETFs). While not inaccurate, there's more information investors could get—counterparties, settlement dates, etc.—and swaps-based funds could use some improvement on that front. But those are a real minority of ETFs, and they are ETFs that exist on the extreme edge of the product structure; the vast majority provides full disclosure.

For all plain-vanilla, nonleveraged ETFs—which is to say, for the vast majority of ETFs—full and obvious disclosure is the rule of the day.

The blog goes on from there:


"While ETFs trade on exchanges and folks think that they’re buying or selling at the net asset values of the moment – the truth can be far and away different.

That’s because throughout the day, few folks actually know what’s inside the ETF’s underlying assets, which are embodied by what are called “Creation Units.” Each Creation Unit is what is used to deliver an ETF share to the market. And, each share of an ETF actually is just a share in the underlying real basket of assets.

Those assets can vary widely throughout the trading day and are not usually made up of actual stock shares – but rather a series of options, swaps, forwards and a host of other derived securities, in amounts and proportions that only the specialists and the managers of the ETF know about.

Traders in the know love these things because they get to trade against the underlying basket of assets. They get to buy, sell, short and everything else that can enable them to arbitrage against the secret baskets of assets behind every ETF."


I’m not sure I can even follow the logic of those paragraphs, but I can do so enough to tell you that it’s faulty.

The assets of an ETF do not vary throughout the day. They are what they are. And they are by and large not “a series of options, swaps, forwards and a host of other derived securities … that only specialists and the managers of the ETF know about.”


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