BOSTON: The Market Vectors Egypt Index ETF, which has managed to rise to trade at a 10 percent premium over the value of its net assets since the Egyptian stock market shut a month ago, is in danger of plunging once the local market reopens.
The Egyptian cabinet once again delayed Tuesday the reopening of the stock market, which has been closed since January 28. Investors are bracing for a huge sell-off, and new circuit breakers have been imposed.
While exchange-traded funds are designed to avoid trading at either a premium or a discount to the value of their net assets, the mechanisms to avoid mispricings cannot function when the underlying holdings do not trade for a prolonged period.
Four of the Egypt ETF’s five largest holdings have continued to trade in London and Toronto, but the fund’s other 24 shares have not traded since the local market closed last month. That means that the fund’s current net asset value relies on stale prices for 24 stocks out of a total of 28.
The Egypt ETF was trading at $17.25 on the New York Stock Exchange on Monday, compared with its most recent net asset value of is $15.63. The fund’s shares closed at $16.22 the day Egypt’s market closed.
The four stocks that have continued to trade comprise about one-quarter of the Egypt fund’s current net asset value of $27 million, according to Dave Nadig, head of research at ETF-oriented web site IndexUniverse.com.
"Once the market closed, ‘EGPT’ stopped being an investment and became a pure speculation vehicle," Nadig said. Buyers expected that "the plummet the Egyptian market took at the end of January as the situation destabilized would reverse."
But while some investors bid up the US-traded ETF’s price, others were busy selling the four major holdings that were trading overseas. Orascom Construction has lost 9 percent in London trading since January 27, for example, and Centamin Egypt dropped 12 percent.
Those four stocks have greater market value and trading volume than the ETF, as well.
The fund’s substantial cash holdings present another potential drag on performance. The fund’s sponsor, Van Eck Global, created new shares in exchange for cash for a day after the Egyptian market first closed.
That move has left the fund with almost $10 million in cash that cannot be invested in Egyptian shares until the market reopens and, thus, would not share in any immediate market gains.
So after taking into account the prices of the four stocks still trading and the drag of the cash hoard, the value of the 24 stocks that have not been trading would have to rise immediately by some 65 percent to keep investors who bought the fund at a premium in the black, Nadig calculated.
Van Eck does have the contractual right to go back to the late January purchasers and demand more cash to make up for an immediate market jump, according to the fund’s securities filings.
New York-based Van Eck declined to comment on the net asset value issue until after the Egyptian market has reopened. The firm "is taking a wait-and-see approach as to when regular operations might resume," a spokesman for Van Eck said.
Typically, such demands are for less than 1 percent of the value of ETF shares purchased, Nadig said. "It would be the largest clawback in the history of ETFs," he said.
But even if Van Eck succeeded in eliminating the cash drag, the 24 stocks would have to jump over 20 percent.
