An Exchange Traded Fund (ETF) is an investment instrument that was introduced in the 1990s. In the last three decades, ETFs have seen unprecedented growth. In December 2019, globally, ETF assets reached a milestone of $6 trillion in their kitty. That is almost double the GDP of India over the past few years\u2013 the value of all the goods and services produced in the country in a year!<\/p>\n\n\n\n
But what exactly is an ETF? In the most rudimentary terms, an ETF is a mutual fund impersonating as a share on the stock exchange. Sounds a bit complicated? Let\u2019s unpack it.<\/p>\n\n\n\n
Nature<\/strong><\/p>\n\n\n\n An ETF is similar to mutual funds in that it pools the financial resources of multiple investors and invests them in a basket of different financial instruments such as stocks, bonds, and commodities. This fundamental concept of pooling allows for effortless diversification of the portfolio and helps balance risk. ETFs are similar to shares in that they can be traded on the stock exchange. <\/p>\n\n\n\n Affordability <\/strong><\/p>\n\n\n\n ETFs have a lower cost of fund management and other overheads. For instance, typically mutual funds have a higher expense ratio in the range of 1% to 2.5% and other fund management costs. For a typical ETF, this cost is lower, usually 0.75% to 1.25% making ETFs a less expensive option.<\/p>\n\n\n\n Transparency <\/strong><\/p>\n\n\n\n Since it is traded as a share, an ETF\u2019s list of holdings is published daily making it extremely transparent. Conversely, mutual fund holdings are published quarterly, which means you have less transparency there.<\/p>\n\n\n\n Returns <\/strong><\/p>\n\n\n\n Let\u2019s consider the SPDR S&P ETF, which tracks the movements of the S&P 500, to discuss the expected returns. It returned 22.50% in one year (February 2019 to February 2020), which is significantly higher than the -8.41% returns on Indian stock exchanges during that same period. <\/p>\n\n\n\n Let\u2019s understand some of the prominent types of ETFs and the purpose that they serve.<\/p>\n\n\n\n This type of ETF provides an opportunity to invest in high-value equity shares of many leading companies at the same time.<\/p>\n\n\n\n Bond ETFs allow you to invest in various fixed income securities such as government bonds and corporate bonds. It provides low-cost exposure to a more secure bond market while providing better liquidity than an individual bond.<\/p>\n\n\n\nTypes of ETFs<\/strong><\/h2>\n\n\n\n
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