ETFs: Discounts and Premiums

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As you look for exchange traded funds (ETFs) to purchase for your portfolio, you need to concern yourself with a number of factors . Not least of these is the issue of discounts and premiums.

All ETFs have a net asset value ( NAV ), which is calculated by dividing the total value of all the securities in the portfolio by the number of outstanding shares.

Since ETFs are traded on a stock exchange and priced continually, it means that the ETF's price is constantly shifting. Because that price moves freely, a price discrepancy may occur between the price of the fund and its NAV.

If the price of a fund is lower than its NAV, the ETF is trading at a "discount." If the price of the fund is higher than its NAV, the ETF is trading at a "premium." [ How to Examine ETFs for Better Trading. ]

Here's an example:

If the NAV of an ETF is $30 and the ETF is trading at $25, it's trading at a discount.

If the NAV is $30 and it's trading at $31, then it's trading at a premium.

What does this mean? When you're buying, generally not much. But when you sell, the movement from the discount or premium will affect your overall return. The more you trade, the more evident this impact will be. Buy-and-hold investors may not be as concerned with this issue. [ How to Find the Right ETF. ]

For more information on ETFs, visit our ETF 101 category . Our ETF Education section contains many more educational articles like this one! Check it out.

ETF Education, ETF Strategies

Max Chen contributed to this article.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , ETFs

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