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In association with

McGraw-Hill

Your market maker is accessible and

committed to supporting your business

Chris Schedlich

Director, Head of Program Trading Australia

Citigroup Global Markets

ETF Execution Services

Citi Global Markets Australia

Strictly Private and Confidential

October, 2013

Content

Citi’s ETF credentials

What does the market maker actually do?

True ETF liquidity

Short-selling

ETF trading: hints & tips

Check intraday NAV

Market vs Limit orders

Understand the underlying securities of the ETF

Questions

Citi’s credentials: involved in Aussie ETFs from the very

beginning

A little known fact, Salomon Smith Barney listed the first

Australian ETF in March 2001

The IndexShares100 (ticker: IDX.AX) tracked the

S&P/ASX100 index

State Street listed their StreetTRACKS products in August

2001, tracking the S&P/ASX50 and S&P/ASX200

Citi was the original designated market maker for both the

STW.AX and SFY.AX

Citi made markets in the first precious metal ETF listed in

Australia, ETF Securities GOLD.AX

Citi was key in helping Blackrock bring iShares to market in

2007

Further critical industry support for sector ETFs, fixed income

ETFs, synthetic ETPs…

Trading highlights: Since 2008, Citi has traded over $6bn in

STW (#1 market share) and almost $1bn each in IVV (#1), IVE

(#1) & GOLD (#2)

2001

2003

2007

2013

2010

2009

Market Makers – what do they actually do???

Fund Market Maker Exchange

Create / Redeem Quote on exchange

Market makers (MMs) transform liquidity

MMs access fund liquidity by applying to

create or redeem units within the fund

They typically must hold units in the fund

on their trading book, so that they may

offer them to the market on a listed

exchange

The market maker is not an investor, and

must therefore manage the risk of the

holding these units on their trading book

MMs will show bids and offers in the fund

on the listed exchange, they earn their

keep by making a spread on the ETF

The level of the bids and offers they show

are completely dependent on the value of

the underlying fund, which is tracked in

real time

Investors can therefore buy or sell the

exposures they demand instantaneously,

controlling entry and exit levels instead of

waiting for pre-determined fund-mandated

application or redemption times

True ETF liquidity example: STW.AX

The SPDR S&P/ASX200 fund is the largest and

longest running ETF listed on the ASX, with over

$2.2bn in assets

As a MM, Citi can access three sources of liquidity:

1. The ETF itself (STW.AX)

2. The underlying securities of the S&P/ASX200

3. SPI index futures

The average daily volume in the ETF is about 100k

shares, or $5m

The S&P/ASX200 trades over $4bn a day

SPI index futures trade around $3bn a day

Total accessible liquidity for STW is over $7bn /

day!

Trading impact for large orders is significantly

diminished when accessing underlying liquidity

The bid / ask spread of STW is also just 5.4bps, which

compares to the spread of the ASX200 at ~13bps

Example 1: Buying $50m STW.AX

The BECS Expected Impact Cost is reduced

from 7% to 0.1% when accessing underlying

liquidity

ETFs can be more liquid than the underlying securities

The iShares MSCI Emerging Markets ETF aims to match the return of the MSCI Emerging Markets Index.

Cross-listed on the ASX in October 2007, the current average daily value of trades is around $1m. The

fund’s primary listing in the United States trades roughly US$2.4bn per day on the secondary market.

Citi can access three sources of liquidity:

1. The ETF itself (IEM.AX)

2. The underlying securities of the MSCI Emerging Markets

3. The secondary market liquidity of the primary listing in the United States (EEM US)

This ETF presents the interesting situation where the liquidity of the primary listing in the United States is greater than that of the underlying constituents.

The expected impact of executing a $500m order in the EEM is only 9bps, compared to 22bps if executed in the underlying emerging markets

For clients that are sensitive to NAVs, Citi is will trade underlying markets and wrap executions into the US ETF.

– This execution is then converted to the ASX listing (IEM.AX) in the same fashion as existing CDIs such as NWS, RMD and HGG

Example 2: Buying $500m EEM US

The liquidity of the ETF actually exceeds that of

the underlying MSCI Emerging Markets

constituents

Stock lending / short selling

ETFs can be shorted like most equity, but first you need to locate

borrow

Due to the infancy of the market, there are few long term institutional

holdings available for lending

Citi offers some ETF lending services to its institutional clients,

though rates are generally high at the moment

Potential pick-up for long term holders via usual stock lending

channels

Currently the Australian market is very tight with relatively high

borrow rates

Expect borrow pricing to fall as more stock becomes available over

time

In international markets, you can borrow the entire emerging markets

index for 50bps! Try borrowing all 818 stocks in the emerging markets

index for this price!

ETF trading example 3: Shorting $50m ISO.AX

The iShares S&P/ASX Small Ordinaries ETF aims to match the return of the S&P/ASX Small Ordinaries

Index. Listed in December 2010, the current average daily value of trades is around $100k

Executing a $50m short sale ETF (ISO.AX) Underlying

Constituents

ADV (Average Daily Volume) 520 days volume 0.17 days

volume

EIC (Expected Impact Cost) 26.5% 1.3%

Raw Borrow Cost 3.30% 2.5%

MEF (Management Expense

Fee) 0.55% N/A

Risk Spread 0.25% N/A

Net Borrow Cost* 2.75% N/A

Fixed Creation Cost $1,700 N/A

Example: Shorting $50m ISO.AX

The BECS Expected Impact Cost is reduced

from 26% to 1.3% when accessing underlying

liquidity

ETF borrow is generally difficult to locate due to low levels of core institutional holdings

* Example only, rates subject to change with market availability of underlying securities

ETF trading tip 1: Check iNAV before trading

Red line = iNAV

Yellow line = STW price

Many ETFs have similar tickers that allow investors see intraday NAVs via IRESS. For STW the iNAV ticker

is YSTW.ASX, for ISO it is ISONAV.ETF, for QAU it is QAUINAV.ETF etc. A simple search will yield results.

ETF trading tip 2: Never place “MARKET” orders

NEVER place “market” orders. “Limit” orders eliminate the risk of paying an unnecessary spread or

pushing prices when immediate depth is insufficient to fill your order

Don’t be afraid to “take on” a market maker. They often only show smaller bids and offers so that

they reduce the risk of mispricing a basket. If you like a price, load up your size there

Avoid trading in the opening or closing auctions for products that don’t trade significant daily

volumes

Never place market

orders

Buying 35k shares “at

market” will take all offers

in the screen, whilst a limit

order at 51.13 would likely

get filled in full at that price

ETF trading tip 3: Consider the underlying securities of the

fund

Consider when a large constituent of the fund is not trading due to a corporate action or news flow,

e.g. SLF.AX when Westfield is in trading halt

International ETFs can less liquid when global markets are shut, e.g. IJP.AX when Japan is closed for

lunch or IEU.AX through the European sovereign debt crisis

International ETFs are most liquid when the maximum number of underlying markets are open, e.g.

IAA.AX which tracks the S&P Asia 50 index

An appropriate hedging tool will improve ETF liquidity, e.g. S&P500 futures trade during the Australian

timezone, improving IVV.AX liquidity

Commodity ETFs are more liquid from the Singapore open

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