An exchange traded fund (ETF) is essentially an index fund that trades like a stock and is listed on the exchange. Although popular abroad, it’s still a new concept in India. Currently, India has 16 ETFs, with total assets under management (AUM) of Rs 4,182 crore as of September 2008. In the US, by contrast, there are 707 ETFs, with combined AUM of $585.9 billion!
An ETF is a single security representing a basket of stocks that corresponds to a particular index, say, the Sensex. The ETFs trading value is based on the net asset value of the underlying stocks that it represents. Much like an index fund, an ETF offers built-in diversification. But because ETFs can be bought or sold within the trading day, they offer the flexibility of a stock. ETFs are traded on a stock exchange.
Why invest in an ETF?
The popularity of exchange traded funds is growing: they combine diversification, cost efficiency and flexibility in a single investment. Firstly, with an ETF, you trade a basket of stocks for a single brokerage, saving money on trades. Secondly, there are no short-term redemption loads. Thirdly, ETFs allow you to take advantage of intraday changes in the market, as they trade throughout the day, like stocks. Fourthly, they let you benefit from sophisticated trading strategies such as hedging, diversification, and arbitraging between futures and cash market. And lastly, you can choose from a range of ETFs, including funds that modify standard indices and sector-specific funds.
Types of ETFs
ETFs can be broadly classified into index, commodity, and bond funds. Most ETFs are index funds that hold securities and attempt to replicate the performance of a stock market index.
- An index fund seeks to track the index’s performance by holding either the contents of the index, or a representative sample of securities in the index.
- Commodity ETFs invest in commodities such as precious metals and futures. In India, we only have gold ETFs.
- As for bond ETFs, there is currently only one available in India, namely Liquid BeES.
- There are other types of ETFs, such as currency ETFs and actively managed ETFs but they are not yet available in India.
Where can I buy ETFs?
ETFs trade like stocks, and hence ETF units can be bought or sold through an equity broker of the exchange on which the fund is listed.
… Part 2: Should I invest in an ETF? …
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