By Jim Wiandt, Managing Editor

A key risk inherent in exchange-traded funds (ETFs) is being misrepresented by its proponents, charges Mercer Bullard and the Consumer Federation of America. Sponsors of ETFs responded variously-challenging the critics' data, agreeing, or vowing to change future practices.

At issue is clarifying the nature of ETFs to investors. While most ordinary mutual funds can only be bought or sold at the end of the day at the calculated net asset value (NAV), ETFs are traded through the day on the American Stock Exchange at prices that aren't guaranteed to match the underlying value of the stocks in the portfolio.

With many ETFs the variations are negligible. But some of the funds trade at prices that can vary considerably from the correspondent NAV at the time of the trade. In such cases an investor who inadvertently buys an ETF at a premium to its underlying value is exposed to natural corrective forces (namely savvy traders who exploit the difference between the trading price and the NAV).

According to Mr. Bullard, the risk of price variation is greatest on international stocks. Materials from ETF proponents and the American Stock Exchange have "misrepresented" the risk, he contends.

In a Wall Street Journal article by Karen Damato and Aaron Lucchetti, various ETF supporters responded to the charges. Lee Kranefuss of Barclays Global Investors, said his firm had fully disclosed the mechanics and risks of ETFs. Even so, in May Barclays agreed to provide additional information on its ETF Web site about the daily premiums and discounts of some of its iShares.
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