why does index arbitrage occur?

[Chartsy]

i know the SPY is arbed with the SP500/ES , but why? also, why do ETFs lose value over time?

 

[amit1986]

To make profit??

 

[Chartsy]

To make profit??

is it just a self fulfilling prophecy, as there are algorithms doing it too, or is it a necessity?

 

[Rhody Trader]

i know the SPY is arbed with the SP500/ES , but why?

Because the markets get out of line. Imagine a situation where there's a heavy inflow of buy interest in the futures, but not the cash market. The futures prices would tend to move up as a result, while the cash market held level. The markets are thus out of line. Arbing (in this case selling the futures and buying the cash) brings them back.

also, why do ETFs lose value over time?

Not all do. The leveraged ones have this problem because of the way they reset daily (a 2x ETF is designed to double the daily performance of the market).

 

[Chartsy]

cheers