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SPX vs. SPY - How do they correlate?

post #1 of 20
Thread Starter 
Alright, I might have overlooked something but I've been thinking about this for the past few days and it's just not clicking.

I understand that SPX is an index. No volume data, etc. When graphed, it simply shows the composite weighted average of a basket of 500 individual stocks. SPY, on the other hand is an ETF, which derives its value from the underlying S&P500 index. However, because SPY is a trading vehicle for the SPX, it has some properties that the index doesn't - volume, short interest and it falls victim to the forces of supply and demand, fear, greed, etc. Therefore, wouldn't it make sense that the price of SPY and SPX did not correlate because SPY can be manipulated (in the sense that it couldn't follow SPX) through shorting, panic selling, enthusiastic buying, etc.?

For example, during a market rally, SPY would be appreciating in value simply because overall, the basket of 500 stocks would be gaining value. Investors, becoming aware of this, might rapidly buy into SPY. Wouldn't this increase in sudden demand would cause prices to increase as well, in a magnitude greater than the actually increase of the SPX?

Along those same lines, during a bear market if SPY were shorted, how would the SPY and SPX remain relatively equal? The SPX does not feel the affects of "shorting", yet the two remain relatively equal.

Here's what I'm starting to think: Is it simply because the market participants trading the SPY represent as whole and diverse a sample as those investors trading the individual 500 stocks? Maybe the shorting of SPY is relatively equal to the size, breadth, and magnitude of shorting in the basket of stocks as a whole (which would affect SPX in the same degree, thus leading them to be equal). Perhaps the effects I'm outlining are not great enough in magnitude to thoroughly affect SPY.

Maybe I'm overthinking this, but it is an interesting question. Let me know what you think.
post #2 of 20
I'm not 100% positive but the buying and selling of of SPY does cause some variations in price but because they are correlated the difference between the two will never be that great.
post #3 of 20
Quote:
Originally Posted by Crazed98 View Post
I'm not 100% positive but the buying and selling of of SPY does cause some variations in price but because they are correlated the difference between the two will never be that great.
SPY shares invest directly into the 500 stocks that comprise the S&P 500. Overdoing it on SPY will cause fluctuations in the S&P stocks.
post #4 of 20
This is from memory, so please double-check this info...

Because SPY is an ETF, it is regulated by the fund that own/operates it (SPDRS or State Street Global?). The way I understand it, is that this fund has a pool of shares in reserve and the ability to buy/sell at will, allowing them to regulate the price in a manner that follows the index. Think of them as the MM of this ETF.

In theory, if someone dropped a million share market sell order of SPY while the actual index was advancing, SPDRS would buy those shares to prop up the price and ensure it kept pace with the index. Vice versa, if everyone wants to buy SPY as SPX is dropping, this MM would flood the market with shares from their reserve. Does that make sense?

It's a good theory, but there are flaws in some ETFs. UNG is notorious for frequent disparities between it's price action and the actual price action of natural gas. Some ETFs don't have enough shares in reserve and some have just been discontinued. SPY is one of the better ones, imo.
post #5 of 20
thanks for starting this post, i was wondering the same thing.
post #6 of 20
Quote:
Originally Posted by ryangaines1 View Post
SPY shares invest directly into the 500 stocks that comprise the S&P 500. Overdoing it on SPY will cause fluctuations in the S&P stocks.
This is the answer. The market will balance itself accordingly
post #7 of 20
Quote:
Originally Posted by Rossj711 View Post
Quote:
Originally Posted by ryangaines1 View Post
SPY shares invest directly into the 500 stocks that comprise the S&P 500. Overdoing it on SPY will cause fluctuations in the S&P stocks.
This is the answer. The market will balance itself accordingly
Actually, that's not the answer...

Retail investors participate in ETFs in a secondary market. Only institutional investors can redeem SPY shares at the value of the underlying S&P stocks and only through huge blocks (50k & up)...which makes the first quote misleading...

It's the opened-ended aspect and the arbitrage spreads between the fund and the NAV of the underlying, which creates the market for these ETFs.

Implying that the price action in SPY will affect the value of the actual index or the price action of the underlying stocks in the S&P 500 is, frankly, RIDICULOUS...

In summary, ...
post #8 of 20
Quote:
Originally Posted by 22rowdy View Post
Actually, that's not the answer...

Retail investors participate in ETFs in a secondary market. Only institutional investors can redeem SPY shares at the value of the underlying S&P stocks and only through huge blocks (50k & up)...which makes the first quote misleading...

It's the opened-ended aspect and the arbitrage spreads between the fund and the NAV of the underlying, which creates the market for these ETFs.

Implying that the price action in SPY will affect the value of the actual index or the price action of the underlying stocks in the S&P 500 is, frankly, RIDICULOUS...

In summary, ...
I think you are right 99%.

An instance where you would be wrong is if share creation or S&P rebalancings occur. This is rare.

But really, I appreciate the post. Thank you.
post #9 of 20
Quote:
Originally Posted by ryangaines1 View Post
I think you are right 99%.

An instance where you would be wrong is if share creation or S&P rebalancings occur. This is rare.

But really, I appreciate the post. Thank you.
I am wrong quite frequently; I had double-checked and ross's post reminded me to correct myself...which I did at his expense.

My bad.
post #10 of 20
Here we go again..

I might as well just post this, since I double checked before answering the first time. This argument is erroneous so I'll make it short.

http://www.investopedia.com/ask/answ...indexvsetf.asp

" The reason for this is that the index tracks the return of the underlying stocks but is not traded. The ETF, on the other hand, is a depository receipt of the underlying stocks that the index tracks and it is traded daily. It is the trading of the ETF that causes the variation in returns with the S&P 500's. For example, if all of the stocks in the index are up during the day, the index will also be up however if investors in the ETF sell because they do not feel good about the prospects of the market looking forward, the ETF will be down. "

It's an argument of an depository receipt vs. trading the actual equity or asset. It's an erroneous argument once you look into it.

Good luck.
post #11 of 20
Quote:
Originally Posted by Rossj711 View Post
Here we go again..

I might as well just post this, since I double checked before answering the first time. This argument is erroneous so I'll make it short.
You double-checked the first time and then agreed with this?:

Quote:
Originally Posted by ryangaines1 View Post
SPY shares invest directly into the 500 stocks that comprise the S&P 500. Overdoing it on SPY will cause fluctuations in the S&P stocks.
Because then you quote wikipedia...which goes on to explain how it's the opposite of what you first said...

Quote:
Originally Posted by Rossj711 View Post
" The reason for this is that the index tracks the return of the underlying stocks but is not traded. The ETF, on the other hand, is a depository receipt of the underlying stocks that the index tracks and it is traded daily. It is the trading of the ETF that causes the variation in returns with the S&P 500's. For example, if all of the stocks in the index are up during the day, the index will also be up however if investors in the ETF sell because they do not feel good about the prospects of the market looking forward, the ETF will be down. "

It's an argument of an depository receipt vs. trading the actual equity or asset. It's an erroneous argument once you look into it.
...so which argument is erroneous?... your first one or your second one?... You make it sound like you can actually trade an index...

Regardless, the disparities should never be very large and if they start to get that way, the appropriate agency will get involved just as the CFTC did with UNG and USO.
post #12 of 20
Overdoing it on the SPY will cause fluctuations on the S&P 500 stocks, it's that simple.
post #13 of 20
Quote:
Originally Posted by Rossj711 View Post
Overdoing it on the SPY will cause fluctuations on the S&P 500 stocks, it's that simple.
Prove it. Or give at least 1 reference.

You do realize SPY doesn't hold futures contracts like UNG or USO, right?

There is no way the secondary ETF market affects the value of the index or the underlying stocks. Do you even understand how ETFs work?

I'll take your next one-liner as confirmation that you have no clue what you're typing about...
post #14 of 20
This article in indexuniverse.com does a very nice job of explaining how ETFs manage to track their net asset value (NAV). It is a two tiered market. Ordinary investors buy and sell on the exchanges. If the value of an ETF (for example SPY), wanders too far off from the price of the underlying stocks (the S&P 500 in this case) then the 2nd tier of the market kicks in. Big firms buy or sell-short the underlying securities as appropriate and lock in the profit by hedging with the ETF shares themselves. At the end of the day these large blocks of ETF shares (50,000 shares in the case of SPY) can be exchanged with the fund to close out the position.
post #15 of 20
Quote:
Originally Posted by 22rowdy View Post
Prove it. Or give at least 1 reference.

You do realize SPY doesn't hold futures contracts like UNG or USO, right?

There is no way the secondary ETF market affects the value of the index or the underlying stocks. Do you even understand how ETFs work?

I'll take your next one-liner as confirmation that you have no clue what you're typing about...
Because the SPY hasn't deviated more than what? I can't remember the exact # but I believe it's no more than 0.25% from the S&P Index. I told him that was the answer because in laymans terms it is. No they don't literally buy a little piece of each company, like I said before it's an issue of a depository receipt vs. the actual asset class. I guess my point was, they will balance and correlate pretty damn close so I told him that was the answer, that was careless.

Either way I don't know why I'm arguing with you. You need to get that chip off your shoulder dude. This reminds me of the time you went into my thread and attacked me for talking about a possible resistance play on a stock. Erroneous. Feel free to respond this is the end of my transactions with you.
post #16 of 20
Oh, I thought the question was "how do they correlate" instead of "please give me a warm fuzzy"...

Next time I'll just let you lead people astray with misinformation...

And thank you for pointing out that I have a "chip on my shoulder" whenever I disagree with someone. Excellent insight, once again; keep up the good work

Quote:
Originally Posted by Rossj711 View Post
Because the SPY hasn't deviated more than what? I can't remember the exact # but I believe it's no more than 0.25% from the S&P Index. I told him that was the answer because in laymans terms it is. No they don't literally buy a little piece of each company, like I said before it's an issue of a depository receipt vs. the actual asset class. I guess my point was, they will balance and correlate pretty damn close so I told him that was the answer, that was careless.

Either way I don't know why I'm arguing with you. You need to get that chip off your shoulder dude. This reminds me of the time you went into my thread and attacked me for talking about a possible resistance play on a stock. Erroneous. Feel free to respond this is the end of my transactions with you.
post #17 of 20
Ross was pretty much right. If the ETF goes too far ahead or behind, then the arbitrage traders come in and do their thing and short or buy the underlying securities. Isn't that what he was saying?
post #18 of 20
And jesus 22rowdy, you have possibly the nastiest disposition on this site. Chill out please.
post #19 of 20
Quote:
Originally Posted by simonyadig View Post
Ross was pretty much right. If the ETF goes too far ahead or behind, then the arbitrage traders come in and do their thing and short or buy the underlying securities. Isn't that what he was saying?
No, that's not what he is saying... He said SPX will adjust to the price action of SPY, which is backwards...

You're referring to the primary ETF market in which only institutional investors participate; in that market, the arbitage spreads provide liquidity. Retail investors are only allowed in the secondary ETF market where liquidity is provided by fund managers and brokers who can both create shares and remove them from the float, which enables minimal disparity between SPX and SPY.

"Overdoing" it in SPY (which is still a concept I simply don't understand) will do nothing but increase the premium-or-discount-to-NAV (or disparity)...meaning it will affect only SPY and have no affect on SPX.

I guess you could choose to believe that retail investors play a larger role than institutions in ETFs; I would disagree.

Quote:
Originally Posted by simonyadig View Post
And jesus 22rowdy, you have possibly the nastiest disposition on this site. Chill out please.
You must not visit the politics section very much

It's just e-sarcasm and some members bring it out of me more than others. Soz.
post #20 of 20
Quote:
Originally Posted by 22rowdy View Post

You must not visit the politics section very much
No, I don't visit that section very much for just that reason.
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