Risks of ETFs: Completing the List

Dear fellow Mustachians

I read along on the forum for some time and now hope that you can help me answer my first question: Which risks do ETFs bring with them?

Doing my own research, I came up with the following answers, which I hope you can help me complete:

  • obviously, risk of decreasing price.
  • risk that the issuer (e.g. Vanguard) goes bankrupt.
  • risk that the fund is closed, possibly at an unsuitable time with low prices
  • more „systemic“ risks, where ETFs could be subjected to new regulations because they lead to distortions at the stock markets and enhance „herd behaviour“ and instability.

What other risks can you think of?

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You shift it to another fund which will be also at low price since following the same market index, so no issue there (apart transaction costs to buy the new fund and the stress)

Same the above I would say, since Vanguard operation is different from the ETF securities. But no expert there.

Your money will be save, because the assets are separated in a other entity. Details below.

What happens if my fund company fails?
Your money is safe. Under the Investment Company Act of 1940, which governs the industry, each fund is set up as an individual corporate entity, with its own board of directors. Essentially, your fund hires the fund company to manage its assets. If the company were to file for bankruptcy, its creditors would not be able to touch the funds’s assets. And the fund’s directors could immediately hire a new manager, pending shareholder approval.

Link:

Thanks for the answers. Is that true only of Vanguard or ETF issuers in general?

  • For index ETF’s: a feedback loop with decreasing prices of individual large cap stocks causing a decrease of the index, then a selling in the corresponding ETF’s, then in the underlying stocks, and so on. So far, we have only seen the positive side of this effect (buy -> buy -> buy -> …).
  • The market maker is hiding just when there are plenty of sellers and no significant buyer (already had such situations).

Isn’t that the description of how the markets work in general?
What I mean is that the stock market without ETFs would also see cycles of self-feeding euphoria followed by self-feeding pessimism.

If you look the way it is organized, you always have a custodian which is not the company providing the etf. In the case Vanguard or BlackRock goes broke your found is safe by the custodian.

Sure, but the ETF’s make the loop a bit longer since people don’t buy or sell stocks directly. These additional steps are perhaps a good thing (could help stabilizing the market) or a bad thing (could contribute to the inertia in a selloff). We need to see during the next bear market how it works in practice…

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