Exchange-traded funds (ETFs) are a popular investment tool especially among investors who seek a low-cost, diversified and passively-managed option of parking their money for the long term.In India, they have recently gained popularity but in western countries, the market for ETFs is large. In the US, as of 2020, $5.5 trillion is invested in ETFs. By comparison, as of July 2021, the market is around $44 billion in India.
To understand ETFs, let's review how a mutual fund works. A mutual fund pools money from investors, which is used to buy securities. Units of a mutual fund are distributed to investors, in line with their share of the pooled money. The fund company regularly publishes each unit's net asset value (NAV) in line with how the portfolio is performing.An ETF is essentially a mutual fund whose units are traded on the stock exchange. As opposed to buying mutual fund units from a fund company, ETF investors buy units from a seller on the stock exchange. The buyers and sellers determine the price of the ETF unit. These transactions cannot take place at a price that is too far away from the portfolio's underlying value. Any deviation creates a profit-making 'arbitrage' opportunity that closes the gap.There is another difference. Many mutual fund portfolios are actively managed. Through this approach, the fund manager hopes to beat the index. In contrast, most ETFs are passively managed. So its portfolio will have the same constituents as an index. Instead of doing better than the index, the ETF aims to reproduce its performance.
Investing in ETFs has several advantages.
Research shows most mutual fund schemes fail to beat their benchmarks. But, ETFs, by nature, deliver returns in proximity to the index. This is the reason legendary names like Warren Buffett and John Bogle have advocated for investing in ETFs.Apart from the market risk, liquidity can be another issue. Since ETFs are yet to be very popular in India, they may have low trading volumes. This may result in difficulty in selling or buying several ETF units. Some ETFs, especially in the midcap space, could have a bid-ask spread (or difference between buying and selling price) to the tune of 4-10% because of lack of liquidity.
Buying an ETF is similar to buying a stock. If you have an account with a brokerage firm, you can call up your broker or place an online order.If you wish to invest in global ETFs through Kristal.AI, contact us.
September 9, 2021
Share it with your friends & colleagues!
A fully digital onboarding process that can be completed within 15 minutes.
No more voluminous paperwork and queuing!
I understand the financial products and would want to proceed with investing without a financial guideProceed