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ETF liquidation is simply the shutting down of an Exchange Traded Fund. The fund stops trading on listed markets at a point of time, the holdings are then liquidated to pay money to the investors holding the shares. The recent trend of ETF liquidation started in early 2008 and has resulted in the shrinking of the entire ETF market.

Most ETF liquidations occur because of the fact that they are not profitable to the company which created them. This low profitability can be due to many reasons.

• Lack of investor interest.
• Lack of liquidity and very low trading volume.
• Lack of sufficient funds (low total asset value) which makes it difficult to manage the fund at low profit margins.
• Other reasons like tracking a narrow sector/index, high expense ratio, high competition, tracking error, overall market trend.

When an exchange traded fund undergoes liquidation, it informs the market it is listed in and the investors about the day on which the trade will cease. Trader shareholders have two options, they can either sell the shares before the last trade date or hold the shares for receiving the money from the fund manager after the underlying shares are sold. The liquidation distribution amount is calculated based on the net asset value (NAV) of the ETF.

If the ETFs are held in a taxable account, then the liquidation can create a tax amount. The investors may have to pay the capital gain taxes, either at long-term capital gains rate or short-term ordinary income tax rate.

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