Cash Creates vs In-Kind Creates

When an ETF needs new shares created to meet demand, an authorized participant (AP) delivers value to the fund in exchange for a fresh block of ETF shares, called a creation unit. In a classic in-kind create, the AP delivers the actual basket of underlying stocks or bonds that make up the index, share-for-share, directly to the fund — no cash changes hands, and the fund never has to buy anything in the open market. In a cash create, the AP instead delivers cash, and the fund manager uses that cash to go buy the underlying securities itself.

In-kind creates are generally cheaper and more tax-efficient: the fund avoids trading commissions and market impact since it never touches the open market, and in the US it avoids realizing a taxable capital gain on securities it hands out in-kind during a redemption, which is a major reason equity ETFs have historically distributed far less capital gains tax to shareholders than mutual funds. Cash creates are typically necessary for products where in-kind delivery isn't practical — some fixed-income or international ETFs where the underlying basket is hard for an AP to source directly, or funds using derivatives and other instruments an AP can't simply hand over — and they shift the trading cost and market impact of acquiring the basket onto the fund itself rather than the AP.