Does anyone understand how the SPY ETF actual works?

The SPY is an ETF, stocks in the index have a certain weighting to it.

So e.g. if TSLA has a 3% weigth for example, if TSLA jumps .50 cents should the SPY then move up in the exact same proportions in that same timeframe?

How does this really work?

If I buy 1 share of the SPY, do they use that money to purchase the stocks in the index?

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The weight of each stock in an ETF is proportional to its weight in the index it tracks. So if Tesla makes up 3% of the S&P 500 index, then it will make up roughly 3% of SPY’s holdings as well. However, there isn’t a direct 1:1 correlation in price movements between the stocks and the ETF.

  • The ETF tracks the overall index, not individual stocks. So if Tesla goes up $0.50 but other stocks go down, the net effect on SPY could be minimal.
  • ETFs trade throughout the day based on supply/demand. So SPY’s price may not move perfectly in sync with the index at every moment.
  • There are management fees and other costs associated with running the ETF that may cause a slight tracking error.

Yes and no. Here’s a more technical explanation, courtesy of ChatGPT.

When you buy a share of SPY, the money is not used to directly purchase the stocks in the index. Instead, the ETF is managed by a financial institution, and they create or redeem “baskets” of shares that correspond to the index. These institutions have agreements with the ETF provider to handle the creation and redemption process.

  1. Creation: An authorized participant (usually a large financial institution) buys all the stocks in the index in their correct proportions and delivers those shares to the ETF provider. In exchange, the ETF provider gives the authorized participant a block of ETF shares (called a creation unit).
  2. Redemption: The process can also work in reverse. The authorized participant can return a creation unit of ETF shares to the ETF provider, and in exchange, they receive the equivalent basket of individual stocks.
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