A Look At Exchange Traded Funds (ETFs)

What Are ETFs?

• A financial instrument that is listed on the stock exchange, just like stocks
• ETF consists of a portfolio of stocks or bonds and trades near the Net Asset Value (NAV) of its underlying assets. The type of portfolio will depend on the nature of the fund
• ETF is very similar to Unit Trust/Mutual Funds, except ETFs can be bought and sold throughout the trading day, through the broker/dealer
• Traditionally, ETFs tracks indexes like the S&P 500, but has thus evolved to even tracking different sector, or different style funds, international funds, commodity funds, currency funds, hedge funds and leveraged funds
• ETFs holders are eligible to receive their pro rata share of dividend, if any from the stocks/bonds held in the ETFs

Benefits of Investing In ETFs

• Lower Costs – ETFs are less actively managed, lower marketing, distribution, accounting and management fees
• Buying and Selling Flexibility – ETFs can be bought or sold throughout the trading day, unlike mutual funds/Unit Trusts which can only be traded at the end of the trading day. ETFs can be purchased on margin and sold short, thus can be used as a hedging instrument
• Diversification and Market Exposure – Buying into an ETF, depending on what it is tracking, will be able to buy into a basket of securities or a wide range of asset classes (Bonds, commodities etc), and from different markets, sectors and countries
• Transparency – ETFs have transparent portfolios and are priced at frequent intervals throughout the trading day
• Small Capital Outlay & Cost Effective – Investors can buy the ETFs listed on the exchange at its market price, instead of buying every single stock and there is no load fees

ETF basically is a very good investment tool for long term investor as it provides a broadly diversified exposure, keep investment costs to a bare minimum and may even be tax efficient to some investors. Past datas have also shown that many ETFs have outperform the index.

Sounds good? But of course, like all investment tools, there are also risks involved in buying an ETF. As ETF is made up of a wide range of asset classes, they are susceptible to market risks. In a bear market, none will be spared as well (Unless it is a Bear Fund). Also, there may be liquidity risks as there may not be much attention on it. Thus, it may also lead to large bid-ask spread which can affect the profits on the investment.

So in short, buying into an ETF does not guarantee positive returns every year, but in the longer term, a well diversified ETF portfolio, with low cost, will have better returns with lower risk as compared to funds that has short term superior performance (But rarely able to maintain consistency) with high mangement cost.

Different ETF has different risk exposure and suits different investors’ investment objectives and risk tolerance. Thus investors must do their homework before buying into any ETF.

ETFs on SGX:

• streetTracks STI Index Fund
• streetTracks Gold Fund
• iShares MSCI India
• Lyxor Asia
• Lyxor China H
• Lyxor Hang Seng
• Lyxor Japan
• Lyxor Korea
• Lyxor Taiwan
• Lyxor Commodity
• FTSE Shariah Japan 100