NSE cautions investors over pricey overseas ETFs as demand surges

What is an exchange-traded fund (ETF), and how does an overseas ETF give investors exposure to foreign securities?

An exchange-traded fund, or ETF, pools investments into a portfolio and divides ownership into units traded on a stock exchange. Its market price changes throughout the trading day. The portfolio’s net asset value, or NAV, reflects what those holdings are worth.

An overseas ETF invests in securities from another country or region. For example, an ETF tracking the Nasdaq-100 can give Indian investors exposure to large US technology and other companies through one listed product. Investors therefore avoid purchasing every foreign security separately, although the ETF still carries market, currency, and trading risks.

The article focuses on overseas ETFs whose prices moved far above their underlying holdings’ values. It says demand was supported by stronger overseas-market performance. Over the past year, the Nasdaq-100 gained roughly 24%, while India’s Nifty 50 and Sensex fell about 8% and 9%, respectively. This performance gap helped increase interest in international exposure.

What does it mean for an ETF to trade at a premium to its net asset value (NAV)?

An ETF’s NAV is the per-unit value of the securities it holds, after accounting for relevant assets and liabilities. When its exchange price is higher than that NAV, the ETF is trading at a premium. A 20% premium, for example, means a unit priced at 120 rupees represents holdings worth about 100 rupees.

This difference can arise temporarily because ETF units trade through supply and demand. Normally, market participants can create or redeem units when prices diverge, helping narrow the gap. If new units are difficult to obtain, however, buyers may bid up the limited units already available.

The article says some overseas ETFs traded roughly 65%-80% above the value of their underlying holdings at various points in September. That is an unusually large premium. Someone buying at such a price is paying substantially more than the portfolio’s reported value and could face a sharp loss if the gap closes.

How large were the reported premiums, and how much did demand for overseas mutual-fund schemes and investor folios increase?

The reported premiums were exceptionally large. Publicly available market data showed some overseas ETFs trading roughly 65%-80% above the value of their underlying holdings at various points in September. This means buyers were paying as much as around 1.65 to 1.80 times the portfolio value, before considering any later price change.

Demand for overseas investing also expanded quickly. Assets in mutual-fund schemes investing abroad rose nearly 55% year-on-year to about 485 billion rupees in August 2026. Investor folios, or individual scheme accounts, increased more than 40% during the same period. These figures show broader participation, not just higher prices in a few ETFs.

The combination is important. More investors wanted international exposure while the supply of some ETF units was restricted. That imbalance helped create unusually high market prices. The figures do not mean every overseas product traded at those premiums, but they highlight the scale of the reported distortion and the risks for late buyers.

Why did ETF prices rise sharply while the value of the overseas securities they held remained broadly stable?

An ETF’s market price is set by buyers and sellers, while its NAV reflects the value of the securities inside it. These two prices can separate when demand for listed units rises faster than the fund can issue new units. The article says overseas holdings remained broadly stable even as some ETF prices surged.

The key mechanism was restricted supply. Indian mutual funds had exhausted regulatory limits for overseas investment, limiting their ability to acquire more foreign securities and create fresh ETF units. Investors still wanted international exposure, partly because the Nasdaq-100 had gained roughly 24% while the Nifty 50 and Sensex had declined about 8% and 9% over the past year.

With more buyers competing for a fixed or slowly growing number of units, exchange prices rose above NAV. NSE attributed the divergence to supply constraints and regulatory changes. Thus, the price increase reflected market scarcity and demand pressure, rather than a comparable rise in the underlying overseas assets.

How did exhausted regulatory limits on Indian mutual funds' overseas investments restrict the creation of new ETF units?

ETF units are normally created when an authorized participant or fund delivers the required underlying securities, or their cash equivalent, to the ETF provider. The provider then issues additional units. This process expands supply when investor demand increases and can help keep the exchange price near NAV.

The article says Indian mutual funds had exhausted their regulatory overseas investment limits. That meant they were restricted from making additional overseas investments needed to support fresh unit creation. Existing ETF units could still trade on the exchange, but the pipeline for adding units was constrained. New demand therefore had fewer units to absorb it.

The result was a scarcity premium. Buyers seeking international exposure bid up available units, even though the foreign holdings themselves remained broadly stable. NSE identified this supply restriction as a major reason for the price-NAV divergence. Until rules or investment capacity allow supply to expand, such products may continue trading differently from their underlying assets.

What could happen to an investor who buys an ETF at a steep premium if its price falls back toward the value of its underlying holdings?

Buying at a steep premium means paying more than the underlying portfolio’s current value. The premium is not automatically an increase in the foreign securities themselves. It is an additional amount created by demand for scarce ETF units. That extra amount can disappear quickly if buying interest weakens or supply improves.

For example, suppose an ETF’s underlying holdings are worth 100 rupees per unit, but exchange demand pushes its price to 175 rupees. If the price later moves back toward 100 rupees while the holdings remain stable, an investor who bought at 175 loses about 75 rupees per unit. The loss comes from the shrinking premium, not necessarily from a decline in foreign markets.

NSE warned that investors buying at steep premiums could face an abrupt price fall unrelated to the underlying securities. The article also notes price-band changes linked to the previous day’s NAV from April 1, 2027. Investors therefore need to distinguish portfolio performance from ETF-market pricing.

How do ETF creation and redemption mechanisms normally help keep an ETF's market price close to its NAV?

ETF prices normally stay near NAV because specialized market participants can create or redeem units. If an ETF trades above NAV, an authorized participant can obtain the underlying basket, deliver it to the fund, and receive new ETF units. Selling those units can capture the difference and increase supply, pushing the market price lower.

If the ETF trades below NAV, the participant can buy cheap units, redeem them with the fund, and receive the underlying securities or their cash value. This reduces outstanding ETF units and creates buying pressure. The two trades are forms of arbitrage, because participants seek to profit from the price difference.

These mechanisms are not unlimited. They depend on access to the underlying securities, functioning markets, and enough regulatory capacity. In the article’s case, exhausted overseas-investment limits restricted fresh creation. That weakened the normal adjustment process and allowed some ETF prices to reach roughly 65%-80% premiums over NAV.

Key Facts:

📌 ETFs are baskets of investments traded on stock exchanges.

📌 Overseas ETFs provide exposure to foreign securities through one product.

📌 The Nasdaq-100 gained roughly 24% over the past year.

📌 A premium means an ETF’s market price exceeds its NAV.

📌 Some overseas ETFs traded 65%-80% above underlying values.

📌 Premium buyers may pay substantially more than portfolio value.

📌 Some ETF premiums reached roughly 65%-80% in September.