Exchange Traded Funds

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An exchange-traded fund, or ETF, is a registered investment company. Other forms of the registered investment company include mutual funds, closed-end funds, and unit investment trusts. Legally, an ETF is classified as an open end company or unit investment trust, [1] but in the U.S. a number of other investment vehicles including exchange traded notes, HOLDERS, and certain partnerships are often grouped under the exchange traded fund banner. [2] ETFs are like mutual funds in that they hold a collection of assets, usually stocks, bonds or other securities. Like closed-ended funds, ETFs trade on the market at a premium or discount from their net asset value (NAV). However, unlike closed-end funds, which often trade at large discounts or premiums to NAV, a special procedure for creating or redeeming shares allows institutional investors to perform arbitrage by swapping blocks of securities for ETF shares which generally makes the difference between price and NAV very small.

At year end 2009, ETF's in the U.S. totaled 771.1 billion dollar in net assets. [3] For a comprehensive view of the ETF marketplace, refer to ETF Landscape:Industry Review from Blackrock November 2009.

Contents

Features

SEC: Distinguishing Features of ETFs
  • ETFs do not sell individual shares directly to investors and only issue their shares in large blocks (blocks of 50,000 shares, for example) that are known as "Creation Units."
  • Investors generally do not purchase Creation Units with cash. Instead, they buy Creation Units with a basket of securities that generally mirrors the ETF’s portfolio. Those who purchase Creation Units are frequently institutions.
  • After purchasing a Creation Unit, an investor often splits it up and sells the individual shares on a secondary market. This permits other investors to purchase individual shares (instead of Creation Units).
  • Investors who want to sell their ETF shares have two options: (1) they can sell individual shares to other investors on the secondary market, or (2) they can sell the Creation Units back to the ETF. In addition, ETFs generally redeem Creation Units by giving investors the securities that comprise the portfolio instead of cash. So, for example, an ETF invested in the stocks contained in the Dow Jones Industrial Average (DJIA) would give a redeeming shareholder the actual securities that constitute the DJIA instead of cash. Because of the limited redeemability of ETF shares, ETFs are not considered to be—and may not call themselves—mutual funds.
-- SEC: Exchange Traded Funds


Costs

  • Commission: the up-front charge by your broker to buy or sell a stock or ETF.
  • Bid/ask spread: the price difference between what a seller asks and what a buyer offers for a stock or ETF.
  • Premium and discount: the difference between the trading price and the NAV of an ETF.
  • Expense ratio: the annual management fee for a mutual fund or ETF expressed as a percentage. It is charged directly to the fund/ETF.

The American Stock Exchange web site lists the daily closing bid-ask and premium-discount information for many popular ETFs.

General information about ETFs

ETF vs. Mutual funds

ETF vs. Vanguard ETF share class

ETF Provider Links

The five largest ETF providers hold $544 billion of the $573 billion in total ETF assets under management. (06/30/08)[source:Indexuniverse.com]. Here are links to the five major ETF providers ETF websites:

A complete list of ETF providers can be found at ETF and Index Fund Managers.

See also

References

  1. ↑ SEC: Exchange Traded Funds
  2. ↑ ETF Guide: ETF History
  3. ↑ ICI: ETF Statistics

External Links

Academic Papers

  • Ali, Paul Usman and Gold, Martin L.,The New Model Index Fund(undated). MFAS Investment Advisors Research Paper. Available at SSRN: http://ssrn.com/abstract=275593 or DOI: 10.2139/ssrn.10.2139/ssrn.275593
  • Birdthistle, William A., "The Fortunes & Foibles of Exchange-Traded Funds: A Positive Market Response to the Problems of Mutual Funds" . Deleware Journal of Corporate Law (DJCL), Vol. 33, No. 1, 2008 Available at SSRN: http://ssrn.com/abstract=1013614
  • Huang, Jennifer C. and Guedj, Ilan, "Are ETFs Replacing Index Mutual Funds?" (March 31, 2008). Available at SSRN: http://ssrn.com/abstract=1108728
  • Poterba, James M. and Shoven, John B., "Exchange Traded Funds: A New Investment Option for Taxable Investors" (January 2002). MIT Department of Economics Working Paper No. 02-07. Available at SSRN: http://ssrn.com/abstract=302889

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Mutual Funds
Mutual Fund Mutual fund • Mutual Fund Structure • Mutual Fund History
Mutual Fund Costs Mutual Funds and Fees • Mutual Funds: Additional Costs • Purchase fee • Redemption fee
Mutual Fund Strategies Fund of funds • LifeStrategy Funds vs Target Retirement Funds • Principles of Tax-Efficient Fund Placement
Exchange Traded Funds Exchange Traded Funds • Vanguard ETF Info • Vanguard ETF to Fund Ratios
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