What Are Exchange Traded Funds, How Are They Beneficial?
The financial market is brimming with myriad investment instruments. From basic stocks, to complex debt instruments, the choices are varied with each one vying for attention, claiming to be the best, the safest and ultimate means to clock in big returns.
Imagine if you had a magic instrument that could offer you the limited risk exposure as in Mutual Funds and yet the returns could be at par with the stock markets. Well, actually you do have something like that already in the financial markets. It is popularly known as the ETF or the Exchange Traded Fund. In fact, it trades like a Mutual Fund, and its underlying value is derive from a specific Index, stock, commodity and is trade on the exchanges. Just like in stocks, the ETF prices keep on changing, rising and falling as per the demand-supply matrix. The good part is the fees for ETFs are lower than Mutual Funds and liquidity level significantly higher. This is one of the biggest charms of the ETFs for the common man.
Definition Of ETF
As the name itself suggests, the ETF is a type of fund which gets the valuation from a single underlying asset or a collection of it assets like crude, gold, currency, stock sand even bonds. Essentially the buyer does not have any physical stake in the underlying asset. However indirectly gain or lose for the relative rise or fall in the valuation of the underlying asset. As a result, those holding these ETF get a certain portion of the profit in the form of interest or dividend payout. A residual value can be expected if it is liquidating for good. The best part is transaction in ETFs is quite convenient. In fact that is similar to stocks and the way we buy or sell them.
ETF regulated by Authorized Participants
The number and circulation of ETFs is generally regulating by the Authorized Participants. These APs or the authorize participants are generally the big financial houses like banks and investment banks with significant buying power. They have the capability to both create as well as redeem these ETFs. For creation of these exchange traded funds, a portfolio of the underlying assets are assembling. Therefore they are hand over to the respective fund for making ETF share. Just the exact opposite happens for redemption. The Authorized Participant returns the specific ETF shares to the fund and receives the basket with underlying assets in return. It is a perfectly transparent procedure as the details of the underlying is declaring every day without fail.
One of the primary reasons for the widespread popularity and acceptance of ETFs is the fact that they are easy to understand, convenient to trade in and very simple to deal in. There are no secret charges, overheads costs and commission hassle in case of ETFs.
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