Is Exchange Traded Funds is a Right Track for Investors...


Prof. Sudhi Sharma

So, far as Indian investors shows tremendous assertion in varieties of investment avenues available in the market. Now in this augmentation of investment, a new investment opportunity available in the market i.e. ETF. If you don't know what ETF's meant, it was fine. But the way things are going, it seems incredible to know what they are.

ETF's (Exchange traded funds), have already become extremely popular investment vehicles in the developed market like USA. They first came into existence in the USA in 1993.  It took several years for them to attract public interest. But the good news is that the Budget proposal to allow mutual funds to invest in global ETF's ushers in a whole new investment universe for Indian investors

Now as ETF as a new investment avenue accentuate in the picture, several instincts came in the mind of the prospective investors that what is it, what are the types of it, how attractive this venture in comparative to others

What is it-

Exchange traded fund is an open ended fund that can be traded like a share on a stock exchange. ETF's are just that what their name implies basket of securities that are traded like individual stock on an exchange. ETF's can be bought and sold throughout the trading day like a stock

ETF's invest in a portfolio of securities, which may include international securities, fixed income securities, listed property trust or a combination of asset classes. Prices therefore are determined by the value of the assets the ETF hold.

It is also an index-tracking collective investment fund that aims to track the performance of the underlying index by holding a portfolio of the constituent stocks of that index.


ETF's can be broadly classified as Indexed ETF's and Actively managed ETFs.

Indexed ETFs: Indexed ETFs ( sometimes referred to as Classical ETFs) typically offer low management fees, since they have a low operating cost structure. Reasons for the low cost structure are as follows:

The fund manager does not have to exercise a high level of administration, as investors wanting to buy or sell units can only do so on a particular index ( such as the S&P/ASX 200)

The turnover of underlying shares in the portfolio is minimal as the fund tracks a share market index. In addition, once the target investment portfolio is established, there is ongoing need for the ETF manager to undertake research, since the portfolio composition is determined by the index.

Actively Managed ETFs:  Actively managed ETF's as a name suggest provides privileges to the investors in terms of access to a much broader range of investment management strategies, styles, asset classes and operational practices than indexed ETFs


Now the next question blowing in the mind of the investors that why should we invest in ETFs. How attractive ETF seems to be in this volatile market. So, to make a parity in between investment and market volatility, ETFs provides several key benefits some of them are-

Diversification: An ETF represents an investment portfolio, which provides diversified exposure to an asset class through a single investment.

Global exposure: Some ETFs invest in a pool of overseas securities, offering investors exposure to a foreign market.

Trades like a share: ETF units are traded like shares listed on a stock exchange. Moreover, market makers may be designated to promote the liquidity of ETF units.

Low transaction costs: ETFs, in general have lower transaction costs than traditional open-ended investment funds. The transaction costs of trading an ETF are similar to those of trading stocks, including brokerage and other relevant fees and expenses payable for dealing through the stock exchange.

Information Dissemination: ETFs being exchange-listed instruments, need to comply with the information disclosure requirements of the relevant stock exchanges. The level of the index and the constituent stocks which make up the index are publicly available information that investors can easily access. Price quotations of ETF units for potential buyers and sellers are available even during exchange trading hours.

How attractive this venture in comparative to others-

Is ETF is a right track for prospective investors,what are the distinctive privileges does ETF provides to attract investors invested in other diversified portfolio schemes like mutual funds schemes

ETFs Vs. Open Ended Funds Vs. Close Ended Funds

Parameter               Open Ended Fund       Closed Ended Fund              ETFs

1. Fund Size           Flexible                     Fixed                              Flexible
2. NAV                   Daily                         Daily                              Real-Time  
3. Liquidity             Fund itself                  Stock Market                    Stock Market/
    Provider                                                                                 Fund itself 
4. Sale Price         At NAV +load               Premium/                        Very close to NAV
                                                          Discount to NAV
5. Availability        Fund itself                  Through exchange            Through exchange 
                                                         where  Listed                    where listed/ Fund Itself
6. Portfolio           Monthly                     Monthly                            Daily/ Real-time
7. Intra day
         Not- Possible                 Expensive                        Possible at low cost      

ETF recognition in India-

The Indian Asset management company (AMC) is now planning to take ETFs to a new level. It has filed a combined offer document with the Securities and Exchange Board of India (SEBI) for four new global theme- based ETFs- Global Clean Fund, Global Private Equity Fund, Global Commodity Fund and Global Water Fund. All these funds would invest in ETFs linked to indices whose constituents are the companies which are linked to the respective businesses. For example, Global Clean Fund is going to invest in ETFs linked to indices whose constituent companies are engaged in the production of clean or alternative energy or in companies which are engaged in manufacturing or technology development for clean energy.

While such products are unheard of in the Indian context, even from global perspective they are rather unconventional. Though ETFs per se are popular abroad, in India they have not caught on as expected. To add to it, neither is the Indian investor too conscious about the environment nor related investment opportunities. The test will be in how many takers they can find for this unique venture.

Prof. Sudhi Sharma

Source: E-mail August 13, 2008


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