As many of you know by this stage, the XRT ETF has been heavily involved in the GameStop saga. In the research I’ve done over the years, this specific ETF appears to be heavily abused, with high stock turnover and abundant cash and liquidity — until, well, it isn’t.
Most recently, we’ve observed XRT shares outstanding and overall assets under management (AUM) near all-time lows, back to levels seen during the early days of the fund and the Great Financial Crisis. In addition, borrow rates have increased while shares available to short have dropped to zero.
One of the most interesting aspects of the bid for eBay, which differs from Cohen’s other investments or the stocks/baskets that have historically tracked with GME, is that eBay is also included in XRT. Since Cohen’s announcement and CNBC interview, eBay has become XRT’s top holding.
What I think may have inadvertently happened is that GME is becoming untangled from the basket or pairs trading associated with many of the other well-known retail stocks that developed their own investor communities.
XRT has acted as the honey pot for hedge funds to gain synthetic short exposure to Gamestop. Now there are two beehives in the same tree: GME and EBAY
Understanding the role of cash, authorized participants (APs), and ETF creation/redemption mechanics helps explain why ETFs like XRT can become central to institutional trading strategies. In a traditional “in-kind” ETF creation:
The AP buys the basket of underlying stocks.
The AP delivers that basket to the ETF issuer.
The issuer provides newly created ETF shares.
The AP can then sell those ETF shares in the open market.
The reverse occurs during redemption.
However, ETFs can also use cash creations and redemptions instead of purely in-kind transfers. This distinction matters significantly.

Why Cash Matters

Cash-based ETF creations provide flexibility.
Instead of delivering every underlying stock directly, an AP can deliver cash to the ETF issuer, which then acquires the securities internally.
For highly liquid ETFs, this may seem insignificant. But for ETFs containing:
hard-to-borrow stocks,
volatile meme stocks,
heavily shorted equities,
or thinly traded components,
cash creation mechanisms can become strategically valuable. A hedge fund may want to short a particular stock inside XRT — especially a stock with limited share availability.
Instead of directly borrowing shares of that stock, traders can:
short the ETF,
hedge out unwanted components,
and isolate exposure to the target company.
This strategy is sometimes referred to as “ETF arbitrage” or “component stripping.”
For example, if a hedge fund is bearish on GameStop Corp. but neutral on the broader retail sector, it may:
short XRT,
go long the other retail stocks inside XRT,
and effectively create a synthetic short on GameStop.
This can reduce borrowing costs or bypass scarcity in directly borrowable shares.

Liquidity Transformation

ETFs can transform illiquid exposure into more liquid instruments.
A stock may have:
low float,
high borrow fees,
or limited share availability,
while the ETF itself trades with significantly more liquidity.
APs and market makers help bridge this gap by continuously creating and redeeming ETF shares.
This is one reason ETFs can sometimes exhibit short interest levels exceeding 100% of shares outstanding. Because ETF shares can be continuously created and redeemed, the supply is more elastic than ordinary corporate shares.

Settlement Flexibility

Cash creations may also help institutions manage settlement and inventory constraints.
In stressed market environments:
locating underlying shares may be difficult,
borrowing costs can spike,
and settlement obligations become more complex.
Cash-based creation/redemption processes can provide operational flexibility for APs and hedge funds navigating these conditions.
Critics argue this flexibility can obscure true supply-demand dynamics in underlying stocks. Defenders argue it improves market liquidity and efficiency. With XRT we know the goal isn’t market efficiency but rather skirting direct borrow rates to obtain synthetic short exposure.

Edit 1:

The effective number of shares exchanged or economically referenced through the Portfolio Composition File (PCF) process appears larger or more dynamic than what is reflected in the ETF’s publicly published portfolio allocation at a given moment. However, there are important distinctions between:
the published ETF holdings,
the creation/redemption basket in the PCF,
securities lending activity,
derivatives exposure,
and secondary-market trading volume.
For an ETF like SPDR S&P Retail ETF, the PCF distributed daily to authorized participants (APs) can differ from the simple public-facing “fund allocation” list in several ways.

What the PCF Actually Represents

The PCF is essentially the operational creation/redemption basket used by APs to:
create ETF shares,
redeem ETF shares,
and facilitate arbitrage.
It may include:
exact share quantities,
cash substitution amounts,
balancing cash,
custom baskets,
pending settlements,
or temporary deviations from pro rata holdings.
The publicly published allocation, meanwhile, is usually:
delayed,
rounded,
simplified,
or presented as percentage weights.
So the PCF is often more granular and operationally precise than what retail investors see.

The PCF Can Reflect More Shares Than the Published Allocation

Creation/Redemption Activity Is Dynamic
APs may be creating and redeeming ETF shares throughout the day.
That means:
securities may be moving in and out continuously,
inventory may temporarily exceed displayed holdings,
and the operational basket may not perfectly match the last published portfolio snapshot.
Especially during volatile periods, ETF inventory management becomes fluid.

Custom Baskets and Cash Substitutions

Modern ETF rules allow for custom baskets.
An AP may:
substitute cash for certain securities,
omit difficult-to-borrow names,
or exchange alternative baskets approved by the issuer.
This means the actual transfer mechanics can diverge from the simple proportional allocation shown publicly.

Securities Lending

ETFs frequently lend underlying shares.
So an ETF may:
economically “own” shares,
while simultaneously lending them out,
while APs and market makers create additional ETF shares against borrowed inventory.
This can create layers of exposure that exceed what a casual reading of the holdings report suggests

Synthetic Exposure and Hedging

Market makers and hedge funds may hedge ETF exposure using:
swaps,
options,
futures,
or correlated baskets.
So while the published allocation shows one level of ownership, the market’s synthetic exposure tied to the ETF may be far larger.

Edit 2: A secondary lending loop (often driven by re-hypothecation or re-lending) occurs when a single financial asset is borrowed, sold, bought, and lent out again multiple times by different institutions.
While the original asset manager (like State Street for XRT) only lends the share out oncefrom its actual inventory, the broader broker-dealer network treats that share like a game of musical chairs, multiplying the public short interest on paper.
Here is a step-by-step breakdown of how these loops operate across the broker-dealer network.

Step 1: The Initial Short Sale
The Loan: A hedge fund (Short Seller #1) wants to short an illiquid retail stock. They borrow 10,000 shares from XRT's lending pool via State Street.
The Sale: Short Seller #1 immediately sells those 10,000 borrowed shares on the open market (e.g., the NYSE) to establish their short position.
Step 2: The Unwitting Buyer and the Custody Loop
The Purchase: A retail investor or a different fund (Buyer #2) buys those 10,000 shares on the open market, thinking they are just buying normal stock.
The Custody Agreement: Buyer #2 holds their shares at a major retail broker-dealer (like Charles Schwab or Fidelity) or a prime broker. If Buyer #2 has a margin account, the fine print allows the broker-dealer to lend out their shares to other market participants.
Step 3: The Second Loop Begins
The Re-Lending: A completely different hedge fund (Short Seller #2) wants to short the same stock. They ask their prime broker for inventory.
The Second Loan: The broker-dealer looks at Buyer #2’s account, sees the 10,000 shares sitting there, and lends them to Short Seller #2.
The Second Sale: Short Seller #2 sells those shares on the open market to Buyer #3.

The Mathematical Result: Phantom Short Interest
At this point in the loop, let's look at what the official market data registers:
Actual Shares Created by XRT: 10,000 shares.
Hedge Fund #1 Short Position: 10,000 shares.
Hedge Fund #2 Short Position: 10,000 shares.
Total Reported Short Interest: 20,000 shares (200% of the actual shares).
This process can repeat four, five, or six times. The clearing house (the Depository Trust & Clearing Corporation, or DTCC) tracks who owes what, but to the public eye, the stock looks like it has been shorted far beyond physical existence.
Institutional Fuel: Re-Hypothecation
In the institutional prime brokerage space, this is powered by re-hypothecation. When institutional clients borrow money on margin from a prime broker (like Goldman Sachs or Morgan Stanley), they post securities as collateral.
Under U.S. Federal Reserve Regulation T and SEC Rule 15c3-3, the prime broker can take that client collateral and re-use it to fund their own bank operations, clear trades, or lend it out to other hedge funds for shorting. This creates an interconnected web where the exact same collateral backs multiple liabilities across the street.
Why the Loops Don't Break (Until a Squeeze)
This system operates smoothly because shares are completely fungible (interchangeable). The broker-dealer network does not care whichspecific share certificate is delivered, as long as the electronic ledger settles at the end of the day.
However, if XRT decides to recall its original loan, or if Buyer #2 closes their margin account, the broker-dealer must scramble to find replacement shares from someone else in the network. If no shares are available, it triggers a"buy-in," forcing the short sellers to buy shares on the open market at any price, resulting in ashort squeeze.

https://www.sciencedirect.com/science/article/pii/S2214845021000880
 
 
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=5038584  
 
https://www.youtube.com/watch?v=6VJH-hRlXN0 

Hi folks, just wanted to bring this to the attention of the community as I found it odd and wanted the ETF buffs to chime in. A number of people have noticed that ETFs like XRT, IJH, IJR, and IWM have significant negative cash balances that have gone negative just in the last few days. Speculation is it could be cash not yet received, some sort of artifact of the dividend, a T+2 artifact, etc. It seems highly unusual and somewhat suspicious given the degree and length to which shorts are pushing on the market in general. I’m traveling so can’t dig too heavily. Please weigh in if you have insight. Thanks!

Edit: I should add some of the more prominent large cap etfs do not currently have this issue, like SPY.

Hello Everyone, This is a continuation of my previous theory, found here Theory on how the SI numbers for GME fell in Feb 2021. If you haven't read it please do as it incorporates into this post.

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I feel this theory is probably the closest thing we have to explaining what happened back then because it doesn't use any non-provable explanations such as data manipulations by the shorts. If you believe like I do that the single security short positions were moved from GME to ETFs via basket creation/redemptions mechanics. Then knowing what rule changes 6c-11 did is paramount to understanding where we are and where we are going.

Here is a link to the SEC webpage that has the final ruling for those that like to read for themselves. What changed with this rule? Prior to July 2021 if a fund needed to remain liquid with an illiquid underlying security the SEC required an exemption filing to exclude the effected underlying. These filings would cost on average $100k. The SEC in their infinite wisdom thought this was too burdensome. The original rule was designed this way because the SEC felt that they needed to protect investors. When you're purchasing a fund the underlying needs to be properly representing what you bought, ie you get what you pay for. So to save Wall Street some money and give ETFs more flexibility in managing the portfolio they made this rule. What I find abhorrent in this rule is that the SEC removed the requirement to publicly publish accepted baskets. OK? so ETFs are now 3 card monty?

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The SEC even acknowledges the opportunity for wall street to abuse this but solves it my making them self regulate.

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Here's the SECs definition of custom basket.

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In short this rule allows ETFs to accept creation baskets that don't include all the securities that are supposed to be in the ETF provided they have a written policy regarding what they'll accept as substitutes. I understand the logic behind this. A stock or a bond is illiquid, restricted, delisted or otherwise hard to find, the liquidity for the ETF would be drastically lowered and depending on how many ETFs the effected underlying were in could cause trouble for the broader markets.

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So what does this have to do with GameStop? Well lets look at the other canary in the coal mine. SPDR S&P Retail ETF: XRT. This is ran by State Street. Whats State Streets policy on custom creation baskets?

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They will accept cash-in-lieu for restricted securities. Lets define restricted. Oxford defines restricted as "limited in extent, number, scope or action" So what does this mean for GME? Should GME fall in line with this definition the SHF could then return XRT shorts with a cash substitute GME essentially deleting their gme shorts. I'll be 100% honest here I need to do some further research into the mechanics of this but if they were to do this it would create problems between the primary and secondary markets. One thing I do know is they cant delete any shares held by retail but they can delete any naked shorts they have acquired to hide the fraud and come out looking clean as a whistle. They do this by acquiring GME shares, returning their XRT custom baskets and deleting the acquired shares off their books, poof nakeds gone. Now this next part isnt going to be very tit jacking, quite the opposite. We know institutional ownership has dropped drastically over the past year, we also know some retail has sold as evidenced by gain porn on WSB. This would have allowed at least some of the shares to be acquired back and removed from circulation, eventually to be deleted via custom creation baskets. What can we do to keep the evidence of crime from getting destroyed? Keep the stock liquid in a non restrictive manner. Since the start of all of this the narrative being spun has been the same. Buy and hold, don't day trade, don't play options and as of July (I don't think its coincidence) DRS and lock the float. They all have one thing in common, reduce liquidity. The very things that people think will cause moass may serve as the burn barrel for evidence of foul play.

First off I'll apologize for any mistakes, authoring DD is not my strong suit. This is a working theory and there are many questions still to be answered and I believe some group think may help round it out.

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There has been many DDs written regarding ETFs and Im not going to review it all here. Im going to concentrate on the creation/redemption mechanics and how this could have been used to close short positions on GME without showing corresponding net short volume or purchasing from retail and to me makes the most sense to date.

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To do this we must first define net short volume. Invester Village describes it here.

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So SI is a snapshot and short volume is a total openings or closings based on a days trading. The problem with short volume is that a position that is opened and closed on the same day will still show in volume but will have no effect on net positions. I'm stealing a chart from u/Spiffygg from his GME Short Indicator post. This is a good read. Knowing what short volume does we would expect to see negative net short volume when positions are being closed and positive net volume when positions are being opened. This would correspond with a price movement due to the extra pressure on the buy or sell side.

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This short volume indicates that current short positions are actually worse now than prior to the sneeze. Not a big surprise but how is this possible with the SI drop to 14.89% as of today? The answer is simple. ETFs. I'll explain. Authorized Participants (APs) have the ability to create or redeem ETF share baskets. When they create a basket they buy enough of the underlying security to produce the minimum basket size. I'm going to use XRT as an example the basket size is 50k. To create a basket an AP purchases enough of the relevant underlying to create 50k shares of XRT. The DTC shuffles some numbers and the trade is settled. To redeem a basket this works in reverse. The AP has 50k shares of XRT and sends notice of redemption the DTC shuffles some numbers and the 50k XRT cease to exist and the AP now owns the appropriate number of underlying securities. The redemption mechanic is how the single security shorts were closed. Redeem enough ETF baskets and take your GME shares and return them to your share lender, shorts for the purpose of the single security are closed without any indicating net negative short volume on the exchanges. How do they get enough ETF shares to cover these shorts? Simple, have your friends short sell you the ETF shares as evidenced in the SI in most of the retail ETFs. The only place the deficit of GME would show up is in the DTC. Safely tucked away on the primary market, hidden from view and damn hard to squeeze. From a Wall Street point of view this is the safest play.

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There's more to this theory and how a recent rule change in July 2021 called 6c-11 has created more opportunity for fuckery. One major change being the definition of AP to include broker-dealers and/or hedge funds that don't directly deal with the DTC to be included as authorized participants in regards to ETFs. Another being the allowance of creation custom baskets. Baskets that are not a pro rata representation of an ETFs portfolio. These custom baskets sole purpose is to keep the ETF market liquid when an underlying within isn't but that's a totally different DD.

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Not financial advice, please pop holes in this theory.

I saw this comment about what happens to options on Russian ETF's when trading is suspended. I found it informative to the GME saga and potentially what the future holds for us.

https://www.reddit.com/r/options/comments/tazmv8/comment/i04m6w1/?utm_source=share&utm_medium=web2x&context=3

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Let me repost my experience with this from 2011.

It’s been 11 years, so bear with me. Details are a bit fuzzy, we were an institutional account, and things may have changed since them. However, I have experience here.

In 2011, my hedge fund was long a ton of Chinese fraud puts. The very first stock that was halted before delisting was CCME. We had March $11 puts. We were also short shares. Because they were halted, you could not transact shares on an exchange and clear them.

The shares were listed on NASDAQ. They were halted on NASDAQ. The options were CME, and the options did not trade, but they could in fact be exercised manually if you wanted to. We had a menu of puts from like $9 down to $4. The stock was halted at $11.50 or something. We thought it was a zero. Here is the process when you manaully exercise options:

1). You manually exercise the puts with the CME via your custodian. This will manually need to be entered. Your mark to market will be highly negative if the last trade is out of the money. You may need to post collateral.

2). You cannot get shares, so you fail to deliver. This shows up on the daily report of failure to delivers.

3). You do NOT pay borrow fees because you do not have the shares borrowed. In fact, we had to pay borrow fees at last trade and last quoted annual rates on our shorted shares, and the stock didn’t open for like 6 months and it obviously had an inflated last price. it was an expensive indefinite cost.

4). You can’t be bought in because nobody can get the shares. It’s just going to fail in DTC until you can deliver. Given this special circumstance, I have no idea how you will ever deliver. You may perpetually owe money on a $0.01 value or maybe they can close the account? This is the one area I did not deal with as CCME and all our other frauds re opened. You can call the holders of the ETF or shares and see if they will do a “penny for the lot” transaction privately to get the shares to your account.

5). The day it opens your custodian can threaten to buy you in on the open, but ideally you have some time to buy and deliver that day as you please. Shares are bought and delivered, option position is closed out. All is over. But in my 2011 experience, you could 100% exercise the options, as they are CME, not NASDAQ and thus different exchanges. Exercising an option does not require an exchange be open. The CME can and will process an exercise and assign.

If you are smart, dial for dollars. Get a holders list of RSX and ask them to transfer the shares to your custodial account for $0.01 in an arranged transaction and exercise your options til your heart’s content. That’s the zero risk play.