THE EVENTS of the last few days have caused almost everyone to reflect on the security provisions that are available in the country. In retrospect, the sheer lack of preparedness to cope with acts of terror like that experienced in Mumbai hits you in the face. The realisation, however, has only come after the dastardly event took place.
Retrospection on your portfolio may not be the first thing on your mind currently but in a sense, investors need to be reminded that preparations need to provide a certain degree of stability to your portfolio. And diversification is clearly the mantra that financial experts recommend. One step towards achieving this diversification could be by investing in Exchange Traded Funds (ETF).
WHAT ARE ETFs?
Technically speaking, ETFs are collective investment funds, which have underlying assets such as gold, stocks etcetera. However, what is significantly different about ETFs is that they are traded on the stock exchange in the same way that a share is traded. The funds are generally divided into units and an individual can purchase these through the broker and trade them on the exchange. Explaining the part played by an ETF in an investor’s portfolio, An ETF gives you low-cost access to asset classes which are not easily available with the added benefit of not having to possess it physically.
WHAT ARE THE DIFFERENT TYPES?
If you were looking at investing in ETFs, then there are only three kinds that are available in India - equity ETFs, gold ETFs and liquid ETFs. An equity ETF is one that tracks the performance of a particular index on the Stock Exchange. It invests either in securities on the index or a sample of the securities in the index. Indexes tracked include the Nifty Index, the Nifty Junior Index, Bank Nifty Index, PSU Bank Index and the Sensex. Commodity ETFs are another type of ETFs, which are available world over. However, in India, the only way to put your money in a commodity index would be by investing in a gold ETF. In a gold ETF, the fund invests in physical gold as the underlying asset. If you want an ETF that invests in money market instruments, then you could look at investing in liquid ETFs. However, opportunities in this segment are strictly limited.
WHY AN ETF?
In addition to being the diversifying agent on your portfolio, there is a certain degree of liquidity and flexibility that is available via an ETF. Trading can be done at any point of time during the day through your brokers. Cost-efficiency is also a pertinent point when one talks of ETFs as entry into these funds is available as low costs. For a person who has only small amounts to invest, certain gold ETFs will give him the chance to buy as little as ½ gram of gold. While a person can accumulate a good amount of gold by investing regularly in this manner, he/she does not have deal with problems of storage. A bonus point for gold ETFs particularly is that while physical possession of gold could bring upon wealth tax implications, there is no wealth tax on ETFs. By investing in an index based ETF, you can also hedge the style risk of your fund manager.
Also if you compare the process of investing in an ETF with that of investing in mutual funds, you would have to pay lower management fees for ETFs. As ETFs are listed on the Exchange, distribution and other operational expenses are significantly lower, making it cost effective. These savings in cost are passed on to the investor.
CHECK THE RATIOS
Experts feel that the first step when choosing an ETF would be to look at the costs involved. The expense ratio of the fund is a good indicator for this. Experts recommend that the lower the expense ratio, the better. Another measure that is generally used when considering index funds is tracking error. The tracking error would show how much an the returns of a particular fund deviate from the return given by the index. The lower the tracking error, the better the fund is. A low tracking error could also mean lower costs. Another thing that investors need to ask themselves is whether they want the underlying asset.
RISKS INVOLVED
The risks involved in investing in an ETF are purely systemic risks. Risks in the fund would greatly depend on the risks experienced by the index it tracks. However, investing in a gold ETF may be a benefit in times of market turbulence, as gold often does well during periods of uncertainty.
Retrospection on your portfolio may not be the first thing on your mind currently but in a sense, investors need to be reminded that preparations need to provide a certain degree of stability to your portfolio. And diversification is clearly the mantra that financial experts recommend. One step towards achieving this diversification could be by investing in Exchange Traded Funds (ETF).
WHAT ARE ETFs?
Technically speaking, ETFs are collective investment funds, which have underlying assets such as gold, stocks etcetera. However, what is significantly different about ETFs is that they are traded on the stock exchange in the same way that a share is traded. The funds are generally divided into units and an individual can purchase these through the broker and trade them on the exchange. Explaining the part played by an ETF in an investor’s portfolio, An ETF gives you low-cost access to asset classes which are not easily available with the added benefit of not having to possess it physically.
WHAT ARE THE DIFFERENT TYPES?
If you were looking at investing in ETFs, then there are only three kinds that are available in India - equity ETFs, gold ETFs and liquid ETFs. An equity ETF is one that tracks the performance of a particular index on the Stock Exchange. It invests either in securities on the index or a sample of the securities in the index. Indexes tracked include the Nifty Index, the Nifty Junior Index, Bank Nifty Index, PSU Bank Index and the Sensex. Commodity ETFs are another type of ETFs, which are available world over. However, in India, the only way to put your money in a commodity index would be by investing in a gold ETF. In a gold ETF, the fund invests in physical gold as the underlying asset. If you want an ETF that invests in money market instruments, then you could look at investing in liquid ETFs. However, opportunities in this segment are strictly limited.
WHY AN ETF?
In addition to being the diversifying agent on your portfolio, there is a certain degree of liquidity and flexibility that is available via an ETF. Trading can be done at any point of time during the day through your brokers. Cost-efficiency is also a pertinent point when one talks of ETFs as entry into these funds is available as low costs. For a person who has only small amounts to invest, certain gold ETFs will give him the chance to buy as little as ½ gram of gold. While a person can accumulate a good amount of gold by investing regularly in this manner, he/she does not have deal with problems of storage. A bonus point for gold ETFs particularly is that while physical possession of gold could bring upon wealth tax implications, there is no wealth tax on ETFs. By investing in an index based ETF, you can also hedge the style risk of your fund manager.
Also if you compare the process of investing in an ETF with that of investing in mutual funds, you would have to pay lower management fees for ETFs. As ETFs are listed on the Exchange, distribution and other operational expenses are significantly lower, making it cost effective. These savings in cost are passed on to the investor.
CHECK THE RATIOS
Experts feel that the first step when choosing an ETF would be to look at the costs involved. The expense ratio of the fund is a good indicator for this. Experts recommend that the lower the expense ratio, the better. Another measure that is generally used when considering index funds is tracking error. The tracking error would show how much an the returns of a particular fund deviate from the return given by the index. The lower the tracking error, the better the fund is. A low tracking error could also mean lower costs. Another thing that investors need to ask themselves is whether they want the underlying asset.
RISKS INVOLVED
The risks involved in investing in an ETF are purely systemic risks. Risks in the fund would greatly depend on the risks experienced by the index it tracks. However, investing in a gold ETF may be a benefit in times of market turbulence, as gold often does well during periods of uncertainty.
