During a period of high market volatility, an Authorized Participant (AP) observes that an ETF tracking a broad Canadian equity index is trading on the Toronto Stock Exchange at a significant discount to its Net Asset Value (NAV). Assuming the AP has access to the underlying securities, what action would the AP most likely take to capitalize on this discrepancy and help narrow the price-to-NAV gap? A. The AP would buy ETF units on the open market and redeem them with the ETF manager for the underlying securities. B. The AP would sell ETF units on the open market and buy the underlying securities to create new units. C. The AP would short-sell the underlying securities and buy ETF units to cover the short positions. D. The AP would buy ETF units and immediately sell them back to the ETF manager for cash at NAV.

Question: During a period of high market volatility, an Authorized Participant (AP) observes that an ETF tracking a broad Canadian equity index is trading on the Toronto Stock Exchange at a significant discount to its Net Asset Value (NAV). Assuming the AP has access to the underlying securities, what action would the AP most likely take to capitalize on this discrepancy and help narrow the price-to-NAV gap?

A. The AP would buy ETF units on the open market and redeem them with the ETF manager for the underlying securities. B. The AP would sell ETF units on the open market and buy the underlying securities to create new units. C. The AP would short-sell the underlying securities and buy ETF units to cover the short positions. D. The AP would buy ETF units and immediately sell them back to the ETF manager for cash at NAV.

Answer options: ✅ A. The AP would buy ETF units on the open market and redeem them with the ETF manager for the underlying securities.

• B. The AP would sell ETF units on the open market and buy the underlying securities to create new units.
• C. The AP would short-sell the underlying securities and buy ETF units to cover the short positions.
• D. The AP would buy ETF units and immediately sell them back to the ETF manager for cash at NAV.

Correct answer: A. The AP would buy ETF units on the open market and redeem them with the ETF manager for the underlying securities.

Explanation: When an ETF trades at a discount to NAV, an AP can profit by buying the cheaper ETF units in the market and then redeeming them with the ETF issuer for the more valuable underlying basket of securities (or cash equal to NAV). This redemption process reduces the supply of ETF units, thereby helping to push the market price closer to the NAV.