existence before 1993 and does not even represent a company. The secu-
rity with the highest dollar volume was spiders, the nickname given to
the S&P 500 Depository Receipts (SPDRs), an exchange-traded fund that
represents the value of the S&P 500 Index. In 2006, over 17.6 billion
shares were traded, representing a value of over $2.3 trillion.
EXCHANGE-TRADED FUNDS
Exchange-traded funds(ETFs) are the most innovative and successful new
financial instruments since stock index futures contracts debuted two
decades earlier. ETFs are shares issued by an investment company that
represent an underlying portfolio. They are traded throughout the day
on an exchange where the prices are determined by supply and demand.
Most ETFs issued in the 1990s tracked only well-known stock indexes,
but more recently they have been tracking new customized indexes and
even actively managed portfolios.
The growth of exchange-traded funds has been explosive. At the
end of 2006, ETF assets totaled $422 billion, and although this is only a
small fraction of the $10.4 trillion in standard mutual funds, ETFs have
grown more than 300 percent since 2002.
Spiders were the first and most successful ETF, launched in 1993.
But spiders were soon joined by others, with nicknames like cubes, a cor-
ruption of the QQQ ticker symbol given to the Nasdaq-100 Index, and
diamonds, with the ticker DIA, which represents the Dow Jones Indus-
trial Average.
These ETFs track their respective indexes extremely closely. That’s
because designated institutions, market makers, and large investors,
calledauthorized participants, can buy the underlying shares of the stocks
in the index and deliver them to the issuer in exchange for units of ETFs
and deliver units of ETFs in exchange for the underlying shares. The
minimum size for such an exchange, called a creation unit, is usually
50,000 shares. For example, an authorized participant who delivers
50,000 shares of spiders to State Street Bank & Trust will receive a pro-
rated number of shares of each member of the S&P 500 Index. These au-
thorized participants keep the prices of the ETFs extremely close to the
value of the index. For the active ETFs, such a spiders and cubes, the bid-
ask spread is as low as 1 cent.
There are several advantages of ETFs over mutual funds. ETFs, un-
like mutual funds, can be bought or sold at any time during the day. Sec-
ond, an investor can sell ETFs short, hoping to make a profit by buying
252 PART 4 Stock Fluctuations in the Short Run