Thursday, September 18, 2008

More info for those holding ETF or ETC investments

ETF Securities pushes for AIG collateral

Having made a paper loss on these, I sat in on an institutional-investor conference call this morning. This covers most of it, I will also add a comment.

Posted by beartil2010 @ 05:44 PM (583 views)
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2 thoughts on “More info for those holding ETF or ETC investments

  • I’ll try to summarise the key items:

    The ETC-commodity class of instruments are structured as credit – ie. debt – paper investments. ETFS create the instrument and how it works, and AIG provides the financial backing. When you buy one of these, you are essentially buying a debt note off AIG that they promise to pay back.

    The instruments are traded on exchanges, and you can buy them through ‘authorised participants’, your brokers. When a purchase is made on an exchange, from that time until the trade clears and is redeemed with the producer of the note (AIG) the market-maker (the exchange, LSE etc.) is 100% liable for the debt.

    Clearing the note takes 3 days. During that time the exchange is liable to pay anything outstanding, should AIG go bust. Consequently the exchanges immediately priced in a massive credit risk for each transaction, meaning it looked like your investment had lost 15-95% if you looked at your portfolio.

    If AIG had gone bust 100% loss would have occured. AIG are now solvent because the US Gov has stepped in to buy them and guarantee debts. Consequently, these instruments should now become tradeable again.

    There are 3 options:

    1. The exchanges start to carry the instruments again at 0% spread (margin) as before and life carries on. The exchanges may be twitchy about AIG.
    2. AIG stumps up the up-front collateral for the whole asset class (a couple of $billion) so that the instruments become 0% risk. The exchanges then trade without worry. Do AIG have this much collateral spare?
    3. Neither of the above happens. Individual investors are set up to redeem their instruments directly with ETFS – this can be done but requries legal consents in various places. Trading is then enabled, but through ETFS rather than an exchange.

    4th option – no-one can come up with a plan, and ETFS forces compulsory redemption of all instruments. All of the ETC and ETFs are forcibly sold and AIG has to pay for the whole lot.

    That’s the summary. My personal hope (and that of ETFS) is for number one, above.

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  • dohousescrashinthewoods says:

    Many thanks for this, very informative. It’s good to have some clear information.

    I almost bought some of these ETFS instruments a while back. I remember bloggers here even before that noting that physical gold was better than gold ETFs in case the investment banks went bust. I ended up buying real gold as I figured it was “disaster insurance”. Today it was worth between 40 and 50% more than I paid for it 12 months ago.

    Investment banks going bust seemed like a distant punt at the time, but what a difference a year makes!

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