Introduction

Exchange-traded funds (ETFs) that provide exposure outside the U.S. may invest in securities that trade on exchanges in different time zones, and may be closed when U.S. markets are open. But while those non-U.S. markets are closed, events are transpiring in the U.S. and elsewhere that may impact the anticipated future value of those securities. This article examines how the market price of an ETF with international holdings reflects those changing price expectations during the U.S. trading day.

The closing market price of an ETF typically is aligned with its net asset value (NAV), the value of the ETF based on the stocks in its portfolio.¹ However, for some ETFs that invest in securities that trade outside the U.S., it may be more common for market prices to differ from the NAV. These ETFs may trade at a “premium” or a “discount” to NAV, particularly in times of increased market uncertainty or volatility. While this may initially be a source of concern or confusion for investors, a closer look reveals why this difference can occur and highlights one of an ETF’s potential advantages: price discovery.

Pricing in closed markets

Many world stock exchanges do not trade during U.S. market hours. Because of the differences in time zones, European exchanges close several hours before the U.S. trading day ends, while Asian exchanges do not overlap with U.S. market hours at all. For ETFs with Asian or European holdings, though the NAV of the ETF and corresponding benchmark returns are calculated or “struck” based on prices at the time these foreign exchanges close, the ETF trades throughout the U.S. market day. As a result, any significant, late-breaking news can move the market price return away from the NAV and index returns that were calculated from prices obtained earlier in the day as local markets closed.

Many world stock exchanges do not trade during U.S. market hours

Typical New York Stock Exchange trading hours 9:30AM – 4:00PM ET

Priced across the day

Unlike an ETF with domestic holdings, the performance returns of an ETF with international holdings may include security prices obtained at different times of day depending on international market closings. As the chart below shows, for an ETF with domestic holdings only, the security prices are typically obtained at the same time as the close of the stock exchanges at 4 p.m. ET.

How price discovery works

Authorized Participants (APs) are large institutions, such as market makers or clearing firms, that create and redeem large blocks of ETF shares. APs monitor financial markets, news, and events to determine “intrinsic fair value” (IFV), a proprietary calculation of an ETF based on its holdings’ current price or, for any holdings in closed markets, the expected price at next market open.²

The result of this “price discovery” is to determine the ETF’s current bid and ask pricing,³ keeping the ETF’s market price in line with its IFV. Simply put, the ETF offers access to other markets, even when those markets are closed, which is why most differences between an international ETF’s NAV and its current market price are an intended result of price discovery.

Summary

ETFs can offer access to international markets—even when these markets are closed. The process of price discovery helps ensure that international ETFs are reflecting key events at all times. With a deeper understanding of how international equity ETFs are priced, investors can make more informed decisions.