The short version
- You buy ETF units from other investors on a stock exchange, not from the fund itself.
- A few large firms, called authorised participants, can create new units or cash them in with the fund. That lets supply follow demand.
- Market makers quote buying and selling prices all day. The gap between them, the spread, is a cost you pay each time you trade.
- The price normally stays close to the value of the fund's holdings, because traders profit from closing any gap. In stressed markets the gap can widen, as it did for some bond ETFs in March 2020.
Part of ETF basics. New to ETFs? Start with what an ETF is and how it works.
- 1.5%tightest maximum spread band for registered ETF market makers on the London Stock Exchange
- 90%of continuous trading time those market makers must keep quoting prices
- 5%+discount to asset value on some large corporate bond ETFs in mid-March 2020
Two markets: where you trade and where units are made
An ETF lives in two markets at once. In the secondary market, investors buy and sell existing units on a stock exchange. That’s where you trade, through your platform.
In the primary market, new units are created and old ones cancelled. Only a few firms deal there. The key information document for one large global ETF says that, in normal circumstances, only authorised participants may buy and sell shares directly with the fund. Everyone else trades on an exchange through a broker.
Authorised participants: making and cancelling units
Authorised participants (APs) are firms with contracts with ETF providers that let them create and redeem units. They work in bulk. State Street’s explainer puts a typical block, called a creation unit, at 50,000 ETF shares.
- Creation: the AP delivers a basket of the shares in the index to the fund and receives new ETF units.
- Redemption: the AP hands units back and receives the shares, or sometimes cash.
State Street says these swaps are typically made “in kind”, shares for units, though some funds also pay out in cash. It’s how an ETF grows or shrinks with demand. If buyers outnumber sellers, APs create units. If sellers outnumber buyers, they redeem them.
Why the price stays close to the value
Every ETF has a net asset value (NAV): the value of what it holds, after costs, per unit. It’s calculated once a day, from the closing prices of the fund’s holdings.
The market price moves all day. When it sits above NAV, the ETF trades at a premium; below, at a discount.
APs keep the two together. The Bank of England describes the mechanism: if a gap opens between the ETF’s price and its basket of shares, the AP can swap the cheaper one for the dearer one. Buying the cheap side and selling the dear side pushes the gap shut.
To help traders judge value during the day, many ETFs publish an indicative intra-day NAV, or iNAV. For one large iShares ETF, it’s available from Deutsche Börse and Reuters.
Bond ETFs can show a small built-in premium for a technical reason. Vanguard explains that the ETF’s price is the midpoint of the best bid and offer, while the bonds are valued at their bid prices.
Market makers and the spread
Market makers are trading firms that post prices to buy (the bid) and sell (the offer, or ask) throughout the day. Those quotes set the spread. Vanguard describes the spread as the compensation a market maker needs to cover its costs, paid on every round trip of buying and selling.
On the London Stock Exchange, registered ETF market makers have duties. They must post two-way prices within a maximum spread, set in bands of 1.5%, 3%, 5% or 15% depending on the ETF’s sector. They must keep quoting for at least 90% of continuous trading.
Those are ceilings, not typical figures. Vanguard notes that an ETF’s actual spread reflects how easy its underlying shares or bonds are to trade, and what it costs APs to create and redeem units.
Timing matters too. Market makers don’t have to quote during the opening auction, from 07:50 to 08:00. Vanguard’s trading guide notes that spreads tend to be wider near the open and close.
When the shares trade somewhere else
A London-listed ETF of US shares has a timing problem. London closes about four and a half hours before New York.
Before New York opens, the latest prices for the US shares are from the previous evening. As news arrives, the ETF’s price can move away from that stale value. Vanguard notes this kind of time-zone gap as one reason prices drift from NAV. A gap like this doesn’t necessarily mean you’re overpaying. It can simply mean the published value is out of date.
What happens in stressed markets
In stress, Vanguard says, spreads on the underlying securities can widen, and premiums and discounts can grow larger than normal.
March 2020 was a real test. In mid-March, some of the largest corporate bond ETFs traded at discounts of more than 5% to their NAV, according to the Bank of England. In January the gap had been no more than 0.1%.
That didn’t mean the ETFs were broken. The Bank pointed to evidence that ETF prices took in new information faster than the NAVs. The bonds were harder to trade than the ETFs, so prices were often being set in the ETFs. Trading in the largest US investment-grade corporate bond ETFs ran at more than three times January’s average.
The discounts on investment-grade bond ETFs closed towards the end of March, after the US Federal Reserve said it would buy bonds and bond ETFs. Bank of England staff later found that, during that period, ETF discounts signalled where open-ended bond funds’ prices were heading.
The exchange has a safety valve too. Market makers’ obligations can be suspended if no firm price is available for 10% or more of the index, for example during a suspension or a public holiday.
Here’s how I’d think about it. In a crisis, an ETF’s price may tell you the uncomfortable truth sooner than the published value does. Selling at that moment can mean selling at a discount.
What this means when you trade
- The spread is a cost. You pay it on each trade, on top of the fund’s yearly charge. What an ETF really costs puts the pieces together.
- Order types differ. A market order trades straight away at the best available price. A limit order sets the worst price you’ll accept, but may not be filled in full.
- Volume isn’t everything. Vanguard argues the spread is a better guide to how easily an ETF trades than its daily volume, because it reflects the liquidity of what the fund holds.
Common questions
- Can I buy units straight from the ETF provider?
- Not usually. The factsheet for one large UCITS ETF says units bought on the stock market can’t usually be sold back to the fund itself. You trade through a broker or platform.
- Is the NAV the price I’ll get?
- No. You trade at the market price, which can be above or below NAV. The same factsheet warns that you may pay more than NAV when buying and receive less when selling.
- What if a market maker stops quoting?
- Ordinary market makers are free to step in and out, Vanguard notes. Registered market makers on the London Stock Exchange must quote for at least 90% of continuous trading, unless their obligations are suspended.
- If an ETF rarely trades, will I be stuck?
- Not necessarily. Vanguard reported that only about 40% of European ETF trading happened on exchanges at the end of 2020, and new units can be created from the underlying holdings. That’s why the spread and the liquidity of the holdings tell you more than screen volume.
This page explains how ETFs work. It isn't advice about what you should buy or when to trade. Investments can fall as well as rise, and you may get back less than you put in. Read the full disclaimer.
Sources
- iShares Core MSCI World UCITS ETF USD (Acc): Key Information Document, BlackRock, September 2026
- iShares Core MSCI World UCITS ETF factsheet, BlackRock, September 2026
- How ETFs are created and redeemed, State Street Investment Management
- ETF trading guidance and best practices, Vanguard Research, February 2021
- How do premiums and discounts work?, Vanguard UK, January 2026
- ETF and ETP market maker obligations, London Stock Exchange (LSEG)
- Interim Financial Stability Report, May 2020, Bank of England, pages 7–8
- Did movements in exchange-traded funds act as a price signal for open-ended fund investors during the 'dash for cash' stress period?, Bank Overground, Bank of England, August 2021
Facts checked 13 October 2026.