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YDANGH* Watch: Russian exploding ETF AUM edition

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*YDANGH = Your Dengi Are No Good Here. (In case you were wondering)

Hat tip to Blonde Money’s Helen Thomas for flagging the below from Bloomberg:

That ETFs bearing Russian equity or bond exposure are having an issue is no secret. Even FTAV is on it ?.

The key bit to highlight, however, is the “create-to-lend” reference. As is becoming a very predictable pattern, the counter-intuitive mechanics of ETF arbitrage mean that when underlying constituent stocks bleed, ETF AUMs tend to explode.

I haven’t got the bandwidth to look into the specific issues, so I’m drawing on historic knowledge to make the following assessment. It’s a speculative take.

But generally speaking, in some ETF incarnations, NOT ALL, these create-to-redeem functions have the capacity to generate a type of short squeeze situation. This is often because the ETF shares have been oversold relative to the underlying by way of the NAV/price management dynamic. So when the underlying collapses, and the differential with the price widens, there are pressures to close the de facto naked shorts that exist in the market.  It is usually the market making specialists that sit in the middle (also known as authorised participants) that carry the greatest exposure — especially if they are also the marketeers of the ETFs and warehousing positions.

If you have trouble understanding what’s going on, think of Tether, the notorious stablecoin everyone fears will ruin the bitcoin ecosystem one day. It’s a great example of a fund that must keep it’s NAV/Price at par, and the associated liquidity mismatch risks that can build up as a result of that obligation.

Now, if it so happens that a stablecoin was taking advantage of greater demand for tokens than underlying by issuing more stablecoin into the market than there is collateral needed to back one-to-one claims (a.k.a fractional reserving), if that dynamic changed it could theoretically become exposed on the short side.

The stablecoin would be forced to either buy the “over issued” tokens back and extinguish them at cost to itself, or — more likely — it would have to finally pony up the collateral.  Either way it would amount to an expansion of assets under management. But it wouldn’t really be representative of new demand from the market, as much as the closing of a legacy position that had over-valued Russian stocks (in this case).

You can read more about the background to that here.

Here’s a snap shot of the top holdings of the VanEck Russia ETF (RSX):

But what we really need to look at is the NAV/Price differential – so if anyone with a Bloomberg wants to send me that, I’ll add it to the post!


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