Exchange Traded Funds (ETFs)
Are index-tracking funds that investors can use to "play the market". There are very few market indexes that cannot be played with ETFs. These are shares that are designed to mirror the performance of a benchmark (such as the S&P 500, or the FTSE 100 ).
where to find / research ETF´s
What are some of the "index's"?
see more: http://www.bloomberg.com/markets/stocks/wei.html
Table of Contents:
note: this is a sub-topic of "asset management"
Compare to Mutual Funds
An exchange-traded-fund (ETF) is similar to an index fund in that both types of securities are designed to track the performance of the index to which they are assigned. The crucial difference, however, lies in the fact that there is no centralized market for mutual funds, whereas ETFs trade on exchanges, and hence, charge lower fees to investors.
How to buy:
They are easy to buy -- you simply need a discount brokerage account (and that's easy to get -- and cheap). Consequently, they're easy to trade. And trade and trade and trade.
About ETF's
An exchange-traded fund (or ETF) is an investment vehicle traded on stock exchanges, much like stocks or bonds. An ETF holds assets such as stocks or bonds and trades at approximately the same price as the net asset value of its underlying assets over the course of the trading day. Most ETFs track an index, such as the Dow Jones Industrial Average or the S&P 500. ETFs may be attractive as investments because of their low costs, tax efficiency, and stock-like features.
An ETF combines the valuation feature of a mutual fund or unit investment trust, which can be purchased or redeemed at the end of each trading day for its net asset value, with the tradability feature of a closed-end fund, which trades throughout the trading day at prices that may be substantially more or less than its net asset value. Closed-end funds are not considered to be exchange-traded funds, even though they are funds and are traded on an exchange. ETFs have been available in the US since 1993 and in Europe since 1999. ETFs traditionally have been index funds, but in 2008 the U.S. Securities and Exchange Commission began to authorize the creation of actively-managed ETFs.[1]
Most investors can buy and sell ETF shares only in market transactions, but institutional investors can redeem large blocks of shares of the ETF (known as "creation units") for a "basket" of the underlying assets or, alternatively, exchange the underlying assets for creation units. This creation and redemption of shares enables institutions to engage in arbitrage that causes the value of the ETF to approximate the net asset value of the underlying assets. [1]
read more: http://en.wikipedia.org/wiki/Exchange-traded_fund
ETF's for BRIC countries:
Investors finally have access to currency-based ETFs for all four of the BRIC nations (Brazil, Russia, India and China).
Rydex Investments has launched the CurrencyShares Russian Ruble Trust (NYSE Arca: XRU), the first Russian currency play in the exchange-traded format. WisdomTree offers the only Brazilian currency fund, while both WisdomTree and Van Eck offer plays on the Chinese and Indian currencies. source
For many years now, retail and institutional investors, and arbitrage traders, have been seeking efficient mechanisms to access the high-interest rate environment in emerging economies like Russia, Mexico, India, Turkey and Brazil; the Ruble ETF is a good start in the right direction. The yield criterion (15% and above on current indications) also enables a series of attractive pair trades involving oil and gas, depending on how investors view the correlation risks involved. (Jonathan Liss, on November 16, 2008, provided an informative summary; visit the Rydex Investments website for more on currency ETFs).
For India, those interested in following the India story are advised to visit the MCX website to review the possibility of trading Indian Rupee currency forwards. For the record, CDS prices for bellwether Indian banks have breached 500 basis points since early this month, and now appear headed firmly towards 700 basis points in a few short weeks.
WisdomTree, which uses an active approach to currency investing, and Barclays Global Investors and the Elements family, which use the exchange-traded note format, also offer a wide range of currency funds.
FAQ's - from AMEX
What are exchange traded funds?
- How can I buy or sell exchange traded funds?
- How easily can I buy or sell exchange traded funds?
- What is the minimum size purchase of an exchange traded fund?
- Why invest in an index?
- What are the benefits of exchange traded funds trading as stocks?
- How does the performance of an exchange traded fund compare with the performance of its underlying index?
- Can exchange traded funds be purchased on margin?
- Can exchange traded funds be sold short?
- Is there a sales load on exchange traded funds?
- Do I get paid dividends on exchange traded funds?
- Where do exchange traded funds initially come from?
- Where can I find exchange traded funds listed in the newspaper?
- Is the value of an exchange traded fund equivalent to the value of the underlying index?
- Where can I get up-to-date price information?
- Where can I get a prospectus?
- What are the risks of investing in exchange traded funds?
Fixed Income ETFs
- What are fixed income ETFs?
- Why buy fixed income investments?
- Do fixed income ETFs pay dividends?
- How will they be taxed?
- Will fixed income ETFs be as tax efficient as equity ETFs?
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Options, Margin, selling short
- yes, you can sell ETF's short, as well as trade on margin, and options with ETFs...
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Some common strategies:
- Pairs trading
Pairs trading is a hedge fund favorite and ETFs have made it easier. Say you believe a given stock will outperform its sector but aren't confident on the direction that that sector will go next. To capture that stock-vs.-sector performance differential (which will probably be small), you buy the stock and short its sector ETF. Or, if you think a company is much worse than its peers, you short it and go long the ETF. In this manner, you can make a bet on a company in Brazil for example, but remove the country risk of currency, for example. What you have essentially done is to transfer that risk to someone else that is willing to (or wants to) carry it. read more here
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Example:
The financial investor may be a Hedge Fund that decides to invest in a company in, for example, Brazil, but does not want to necessarily invest in the Brazilian currency. Using EFT's, the hedge fund can separate out the credit risk (i.e. the risk of the company defaulting), from the currency risk of the Brazilian Real by "hedging" out the currency risk. In effect, this means that the investment is effectively a USD investment, in Brazil. Hedging allows the investor to transfer the currency risk to someone else, who wants to take up a position in the currency. The hedge fund has to pay this other investor to take on the currency exposure, similar to insuring against other types of events.
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Example of a financial hedge
(from wikipedia): A stock trader believes that the stock price of FOO, Inc., will rise over the next month, due to this company's new and efficient method of producing widgets. He wants to buy FOO shares to profit from their expected price increase. But FOO is part of the highly volatile widget industry. If the trader simply bought the shares based on his belief that the FOO shares were underpriced, the trade would be a speculation.
Since the trader is interested in the company, rather than the industry, he wants to hedge out the industry risk by short selling an equal value (number of shares × price) of the shares of FOO's direct competitor, BAR. If the trader were able to short sell an asset whose price had a mathematically defined relation with FOO's stock price (for example a call option on FOO shares) the trade might be essentially riskless and be called an arbitrage. But since some risk remains in the trade, it is said to be "hedged."
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Using ETF's to hedge against currency changes:
- At first, investment companies were reluctant to create currency ETFs, because they weren’t sure if demand was large enough to justify such products. Since currency trading surged in popularity, a spate of new currency ETFs have been introduced, the newest of which is designed to track the performance of a composite of ten of the world’s most important currencies. Previously, this type of product was only available to wealthy investors. Now, anyone with a brokerage account can index in such a way, and would be smart to do just that, in order to hedge against the decline in any single currency.
- read more from Investopedia.com
Size of market:
As of 2006, the ETF market was approximately $700 billion USD.
Morgan Stanley estimates market size will grow to over $2 trillion by 2011.
Benefits of ETF's
ETFs are "flexible" in that they give you the cheap and easy way to invest in almost any "asset class", anywhere in the world. For example, you can bet that oil prices will rise, or that copper prices will fall, all using ETFs. Its now easy to make a portfolio of Japanese industrial stocks, with just one click of the button (rather than assembling a portfolio of individual stocks, you now just buy the index). If you wanted to buy "gold", an ETF would make it easy to buy the gold index rather than individual mining companies (where you would have risk), and it would save you the time of assembling a portfolio yourself, or hiring an outside company to do so for you.
The advantages of ETFs for individual investors
Investment uses
ETFs generally provide the easy diversification, low expense ratios, and tax efficiency of index funds, while still maintaining all the features of ordinary stock, such as limit orders, short selling, and options. Because ETFs can be economically acquired, held, and disposed of, some investors invest in ETF shares as a long-term investment for asset allocation purposes, while other investors trade ETF shares frequently to implement market timing investment strategies.[2] Among the advantages of ETFs are the following:[5][12]
- Lower costs - ETFs generally have lower costs than other investment products because most ETFs are not actively managed and because ETFs are insulated from the costs of having to buy and sell securities to accommodate shareholder purchases and redemptions. ETFs typically have lower marketing, distribution and accounting expenses, and most ETFs do not have 12b-1 fees.
- Buying and selling flexibility - ETFs can be bought and sold at current market prices at any time during the trading day, unlike mutual funds and unit investment trusts, which can only be traded at the end of the trading day. As publicly traded securities, their shares can be purchased on margin and sold short, enabling the use of hedging strategies, and traded using stop orders and limit orders, which allow investors to specify the price points at which they are willing to trade.
- Tax efficiency - ETFs generally generate relatively low capital gains, because they typically have low turnover of their portfolio securities. While this is an advantage they share with other index funds, their tax efficiency is further enhanced because they do not have to sell securities to meet investor redemptions.
- Market exposure and diversification - ETFs provide an economical way to rebalance portfolio allocations and to "equitize" cash by investing it quickly. An index ETF inherently provides diversification across an entire index. ETFs offer exposure to a diverse variety of markets, including broad-based indexes, broad-based international and country-specific indexes, industry sector-specific indexes, bond indexes, and commodities.
- Transparency - ETFs, whether index funds or actively managed, have transparent portfolios and are priced at frequent intervals throughout the trading day.
With all of these advantages.....why are they not more popular with retail investors?
The problem with ETFs is that they are too cheap. Intermediaries (see asset management ) have no incentive to sell them to their clients. Because the ETF fees are so low, the brokers and resellers of funds have no reason to push these cheaper alternatives on their clients.
Also, because they are inexpensive (of lesser money) , people mistake them for being cheap (of lesser quality).
Major issuers of ETFs
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- Ameristock issues Ameristock ETFs.
- First Trust Advisors issues specialty First Trust ETFs.
- Barclays Global Investors issues iShares.
- State Street Global Advisors issues streetTRACKS and SPDRs.
- Vanguard Group issues Vanguard ETFs, formerly known as VIPERs
- Rydex Investments issues Rydex ETFs.
- ETF Securities issues ETFs or specialised ETCs
- Merrill Lynch issues HOLDRS.
- PowerShares issues PowerShares ETFs, as well as BLDRS based on American Depositary Receipts.
- Deutsche Bank manages PowerShares DB commodity- and currency-based ETFs.
- WisdomTree issues fundamentally weighted WisdomTree ETFs.
- Lyxor Asset Management issues Lyxor ETFs.
- ETF Capital Management operates a global fund of ETFs.
- Claymore Securities issues specialty Claymore ETFs.
- ProFunds issues inverse and leveraged ETFs.
- Van Eck Global issues Market Vectors ETFs.
- AdvisorShares proposes to issue actively managed AdvisorShares ETFs.
- RevenueShares issues Revenue-Weighted ETFs
- SPA ETFs are fundamentally weighted ETFs.
- Jovain Capital has control over BETA-PRO ETFs which are available on the Canadian TSX
International acceptance of ETF's
They have been more accepted in the USA than in most other countries. This is because other countries typically rely more heavily on the commission-based model for investment advisers, where there is less incentive to recommending these cheaper ETF's. In the US, there are some investment advisers that charge an upfront fee for their consulting services rather than the more normal commission based services. These are especially popular with the middle class of investors, and not as much with the rich (see Private Banking discussion).
Who are using ETFs? HEDGE FUNDS!!
The largest early adopters of ETFs are hedge funds themselves. Even though the intermediaries are not recommending ETFs to the general public (they have no incentive to do so), the hedge funds themselves are very active in using ETFs for their own investments.
Why?
Because ETFs are a cheap and easy way to quickly take a position (make a bet). The trades are made right now (and not at the end of the day). And its easy to take a position based on your beliefs, without needing to assemble a portfolio. In essence, the ETF's are like a bunch of building-blocks that investors can use to assemble their own portfolio, and this fits in nicely with Hedge Funds philosophy of investing in "asset classes" rather than in particular companies. (at least with the global macro hedge funds).
Types of ETF's
Index ETFs
Most ETFs are index funds that hold securities and attempt to replicate the performance of a stock market index. An index fund seeks to track the performance of an index by holding in its portfolio either the contents of the index or a representative sample of the securities in the index. [2] Some index ETFs, known as leveraged ETFs or short ETFs, use investments in derivatives to seek a return that corresponds to a multiple of, or the inverse (opposite) of, the daily performance of the index.[13] As of February 2008, index ETFs in the United States included 415 domestic equity ETFs, with assets of $350 billion; 160 global/international equity ETFs, with assets of $169 billion; and 53 bond ETFs, with assets of $40 billion.[14]
Some index ETFs invest 100% of their assets proportionately in the securities underlying an index, a manner of investing called "replication." Other index ETFs use "representative sampling," investing 80% to 95% of their assets in the securities of an underlying index and investing the remaining 5% to 20% of their assets in other holdings, such as futures, option and swap contracts, and securities not in the underlying index, that the fund's adviser believes will help the ETF to achieve its investment objective. For index ETFs that invest in indexes with thousands of underlying securities, some index ETFs employ "aggressive sampling" and invest in only a tiny percentage of the underlying securities.[15]
Commodity ETFs
Commodity ETFs invest in commodities, such as precious metals and futures. Among the first commodity ETFs were gold exchange-traded funds, which have been offered in a number of countries. Commodity ETFs generally are index funds, but track non-securities indexes. Because they do not invest in securities, commodity ETFs are not regulated as investment companies under the Investment Company Act of 1940 in the United States, although their public offering is subject to SEC review and they need an SEC no-action letter under the Securities Exchange Act of 1934. They may, however, be subject to regulation by the Commodity Futures Trading Commission.[16]
Actively managed ETFs
Actively managed ETFs are quite recent and have been offered only since 25 March 2008 in the United States. The actively managed ETFs approved to date are fully transparent, publishing their current securities portfolios on their web sites daily. However, the SEC has indicated that it is willing to consider allowing actively managed ETFs that are not fully transparent in the future.[1]
The fully transparent nature of existing ETFs means that an actively managed ETF is at risk from arbitrage activities by market participants who might choose to front-run its trades. The initial actively traded equity ETFs have addressed this problem by trading only weekly or monthly. Actively traded debt ETFs, which are less susceptible to front-running, trade their holdings more frequently.[17]
The initial actively managed ETFs have received a lukewarm response and have been far less successful at gathering assets than were other novel ETFs. Among the reasons suggested for the initial lack of market interest are the steps required to avoid front-running, the time needed to build performance records, and the failure of actively managed ETFs to give investors new ways to make hard-to-place bets.[18]
Exchange-traded grantor trusts
An exchange-traded grantor trust share represents a direct interest in a static basket of stocks selected from a particular industry. The leading example is Holding Company Depositary Receipts, or HOLDRS, a proprietary Merrill Lynch product. HOLDRS are neither index funds nor actively-managed; rather, the investor has a direct interest in specific underlying stocks. While HOLDRS have some qualities in common with ETFs, including low costs, low turnover, and tax efficiency, many observers consider HOLDRS to be a separate product from ETFs.[19][5]
Active ETF's : what are they? how do they threaten active fund managers?
Dont exactly mirror the indexes, but use the indexes, and then add criteria to "make it better"...a form of value investing.
Examples:
"WisdomTree" Fund: which has done very well. Investing criteria altered based on dividend payouts
"Research Affiliates" index: uses sales, dividend, and other measures
Threat:
The fear (by fund managers) is that these active ETF's could challenge the more traditional "value added" services of fund managers, or hedge funds by making "smart" index funds. (see our discussion on alpha fund managers , and on asset management) . These smart ETFs are creeping in on the "value investing" space that alpha-seeking fund managers thought were out of the reach of mechanized (commoditized) programs. This is one area to watch to see what develops over time.
Great links for more info:
From Wikipedia:
News from around the Web
ETF's - Exchange Traded Funds
ETFs are index funds that trade on exchanges the same way that stocks do. An ETF can make buying into hundreds of companies as easy as buying stock in one company. This simplicity means a lot when you're thinking about buying foreign investments. (To learn more about ETF investing, visit the TheStreet.com's ETF Center.)
ETFs have a lot more access to foreign stocks than most individual investors do. Since many companies abroad only trade on their home exchanges, they're somewhat out of reach (see "How Do I Invest Overseas?"). ETFs, though, can purchase stock in companies abroad, and then be purchased themselves here at home. Also, all of the legal wrangling (such as taxes, tariffs and local investment regulations) is taken care of by the ETF.
ETFs also provide an additional layer of protection, because they're managed by professional fund managers who have experience with international investments. Since financial regulations can be iffy in emerging markets, American investors tend to welcome the expert oversight
The BRIC ETF Play
You can barely turn on CNBC without hearing about one of the BRIC countries. Politics and international economic policy have driven a lot of media interest, which has certainly helped make appeal of BRIC investing much more mainstream of late. And that appeal is warranted. For example, Claymore's BRIC ETF (EEB - Cramer's Take - Stockpickr) has returned 60% since last September, almost four times what the always popular S&P 500 ETF (SPY - Cramer's Take - Stockpickr - Rating) has brought in.
Additionally, many investors have turned to BRIC ETFs as a way of hedging (protecting themselves) against a declining U.S. dollar.
Brazil
ETF's Brazil
Brazil: This country is probably the least discussed of the pack. While the other BRIC members have been in the crosshairs of popular media pundits, Brazil's economy has been quietly plugging away. Since March, the Dow Jones Brazil Index has brought in 26%.
Brazil has the largest economy in Latin America, an area whose regional funds have been crushing the competition ("Top ETFs Have a Latin Flavor"). Brazil's investors are dancing the samba all the way to the bank.
If you're interested in investing in Brazil (or almost any emerging market), an ETF can provide you market exposure with the same security and ease of access as buying and selling a domestic stock. For example, Barclays' (BCS) country-specific iShares MSCI Brazil Index Fund (EWZ) can take a whole lot of red tape out of investing in Brazil's heavily regulated market.
How does EWZ work? The ETF mirrors the MSCI Brazil Index, an index that was designed to measure Brazil's domestic market equity performance. What that means is that EWZ essentially tracks the performance of the hundreds of Brazilian companies that trade on the São Paulo Stock Exchange.
The ETF is heavily weighted in Brazil's key economic areas -- materials (29.6%, including Companhia Vale do Rio Doce) and energy (22.6%, including Petrobas) -- as well as quickly emerging service areas, such as financials (16%, including Banco Bradesco (BBD).
If you're interested in getting some exposure to Brazil without investing in an ETF that's completely Brazil-centric, alternative investments exist as well. There are Latin American ETFs that have holdings throughout Latin America (including Brazil).
For example, the S&P Latin America Index has inspired two ETFs: State Street's SPDR S&P Emerging Latin America (GML) and Barclays' iShares S&P Latin America 40 Index (ILF). And with BRIC ETFs, such as the Claymore/BNY BRIC (EEB) and State Street's SPDR S&P BRIC 40 (BIK), the possibilities to diversify your exposure to Brazil with the other BRIC countries are greater than ever before.
Alternatively, there are also a number of closed-end mutual funds that feature Brazil. Among these are Morgan Stanley's Latin America Discovery Fund (LDF) and Credit Suisse's Latin America Equity Fund (LAQ).
Get news & Quotes from Brazil & Lat. AM funds
EWZ
GML
ILF
Russia
Russia: The Russian economy has taken its share of bumps and bruises (or merciless beatings, depending on your viewpoint) since the fall of the Soviet Union in late 1991. In 1998, the Russian economy collapsed after the devaluation of the ruble. This led to an interesting situation for investors: A massive market move to get out of Russian investments pushed their market values well below what they were worth.
Today, investors have been reaping the benefits as Russia's vast resources (particularly in commodities) have grown the economy substantially over the past several years. With immense oil reserves and high gas prices (that make me cringe on a daily basis), Russia is in an enviable position for the foreseeable future. Remember, though, that Russia's checkered past puts it at a higher risk level than some of its BRIC peers.
India
India: If you've ever had to call tech support, you've probably got an idea of just how far India has come as a service economy. The country's low-earning yet highly educated population has proved to be a real asset for America's outsourcing needs, and a burgeoning middle class full of entrepreneurial-minded Indians has been the result.
While typically known for its manufacturing (mainly textiles), India's ascension to a service-based economy is helping Indian funds deliver annualized returns well into the double digits (see "'BRIC' ETF Investing: Getting Started in India").
China
China: Of the four BRIC countries, China would have to be the biggest "it" investment right now. As the Chinese economy becomes more and more open, lots of solid investment opportunities are coming about. As with the other countries in the group, much of China's economic growth can be attributed to a new middle class that is helping the country to become more self-sufficient and less reliant on the Western consumer. Even so, manufacturing exports remain a mainstay of the Chinese economy (see "'BRIC' ETF Investing: Getting Started in China").
As a group, Chinese stocks are enjoying a bull run. Since January, the Dow Jones Shanghai Index has returned over 115%. Enough said.
How to get started
While each of these countries have American depository receipts (ADRs) that trade here in the U.S., an ETF is far and away the simplest way to buy into BRIC.
Typically, the way to invest in BRIC is by buying an "emerging-markets ETF" that focuses on a region of the BRIC foursome that you're interested in. This way, if you're big on China but less bullish about Russia, you can focus mainly on ETFs whose portfolios are weighted more heavily in that direction. For a look at some funds as well as their BRIC breakdowns, check out "The BRIC is Back."
Researching BRIC ETFs
It's a good idea to look into the ins and outs of your potential BRIC ETF investment a little more carefully than you would a domestic ETF. That's because investing in a BRIC index carries with it some unique risks.
With BRIC investing, the political climate is of particular significance. While this is true of most foreign investments, countries like China are in an elevated position on the world stage. While this global attention can be a bad thing, it has seemingly been more beneficial of late.
BRIC ETFs aren't fundamentally different from any other exchange-traded fund. You'll still want to take the time to analyze the investment information available to make sure that a given BRIC ETF makes sense for your portfolio. (To learn more about what to look for when you research an ETF, visit the TheStreet.com's ETF Center.)
The BRIC Oven
BRIC ETFs are definitely hot right now, and they don't show any signs of cooling down. Investors are pouncing on the opportunity to expand their portfolios with the world's big four growth economies all wrapped up in the simple package that an ETF provides.
While those potential returns come with added risk, if recent history is any indicator of where these markets are going, the future looks pretty bright for BRIC ETFs.
more: www.thestreet.com
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