Personal Finance Online Weekly; Financial Products, Forum, Directory and Information portal

Syndicate

Fundamentals of Exchange Traded Funds

Basically, ETFs are open-ended index fund that can also be traded on the stock market.

Compared to Mutual funds, there are many advantages of ETFs, one is real time pricing, secondly long term investors are protected from short term traders. Hence it proves to be an ideal instrument for both long term as well as short term investors and also it is easy to buy and sell from the exchange. One major disadvantage of ETF is that the investor should have a demat account and a broking account.

There are two types of advantages over index funds - one is the expense ratio which is currently lower in ETFs as compared to normal index funds. The second advantage is the distribution costs- the other index funds have to pay trail commission to the broker, while ETF does not pay the same. So the ETF cost will be lower.

In addition to the above-mentioned expenses, there also exist some `hidden' costs like transaction costs. Such costs do not form a part of the expense ratio like brokerage and STT. The transaction costs however, are incurred by index funds but not by ETFs. This is another area where ETFs score over regular index funds.

ETFs don't incentivise their product, which other regular mutual funds can do, hence there is no one pushing it.

But internationally what has happened that over a period of time people have found out that ETFs are ideal instruments and it has become more popular.

Just to give an example - in the last three month if you look at the Nifty BeES, among all forty funds it was ranked 11th in the down market, which clearly shows that the ETFs/index funds are working.

Bloomberg reports that the $14 billion iShares MSCI Emerging market index, the largest exchange traded fund (ETF) beat those that are actively managed.

Think of an exchange-traded fund as a mutual fund that trades like a stock. Just like an index fund, an ETF represents a basket of stocks that reflect an index such as the Nifty. An ETF, however, isn't a mutual fund; it trades just like any other company on a stock exchange. Unlike a mutual fund that has its net-asset value (NAV) calculated at the end of each trading day, an ETF's price changes throughout the day, fluctuating with supply and demand.

It is important to remember that while ETFs attempt to replicate the return on
indexes, there is no guarantee that they will do so exactly. By owning an ETF, you get the diversification of an index fund plus the flexibility of a stock. Because, ETFs trade like stocks, you can short sell them, buy them on margin and purchase as little as one share. Another advantage is that the expense ratios of most ETFs are lower than that of the average mutual fund. When buying and selling ETFs, you pay your broker the same commission that you'd pay on any regular trade.

There are various ETFs available in India, such as:

NIFTY BeES: An ETF launched by Benchmark Mutual Fund in January 2002.

Junior BeES: An ETF on CNX Nifty Junior,launched by Benchmark MF in Feb, 2003.

SUNDER: An Exchange Traded Fund launched by UTI in July 2003.

Liquid BeES: An Exchange Traded Fund launched by Benchmark Mutual Fund in July 2003.

Bank BeES: An ETF launched by Benchmark Mutual Fund in May 2004.

[ Back ]