According to AMFI, Exchange Traded Fund (ETF) is one of the fastest growing mutual fund categories in India over the last few years. As on 31st March 2022, ETF was the largest category in terms of assets under management (AUM) comfortably ahead of the second largest category i.e. liquid mutual funds. Though most of the investments in ETF category come from institutional investors, there are also rapidly growing retail and HNI interest in ETFs. In the last one year ending 31st March 2022, retail and HNI AUM in ETFs and FOFs grew by nearly 65%.

Benefits Of ETFs

  • ETFs invest in basket of securities which constitute a market index. ETFs do not aim to beat the index; they simply aim to track it as closely as possible. As result, there is no unsystematic risk in ETFs, unlike actively managed mutual fund schemes.
  • Since ETFs simply track an index, there is no human bias or errors of judgment thereof. With ETFs your expectation is to get market returns, not more or less.
  • ETF costs (TERs) are much lower than actively managed mutual funds. In absence of significant alphas, lower costs can result in significantly higher returns in the long term due to compounding.

Points To Note About ETFs

  • After the NFO period, you can buy/sell ETF units only on the stock exchanges unless you are transacting in lot sizes as specified by the AMC. The lot sizes or creation units are much bigger than the average ticket size of retail investments.
  • In order to sell your ETF units in the stock exchange, you need to sufficient buyers in the market. If there are not sufficient buyers, you may not be able to sell your ETF units or be forced to sell at a lower price than expected.
  • The price at which you buy/sell ETF units can be different from the NAVs; it will depend on the liquidity of the ETF.
  • The return of your ETF may be different from the index return subject to tracking errors. There can be various sources of tracking errors e.g. TER, impact cost, trading efficiency etc.

Things To Consider When Investing In ETFs

  • High Liquidity: Higher the liquidity, easier it is to sell the ETF at the right price i.e. as close to the NAV as possible. How will you know if an ETF has sufficient liquidity? Check the trading volumes of the ETF compared to other ETFs on the stock exchange. High daily trading volumes indicate high liquidity. You can get the trading volumes of exchange traded funds on the stock exchange websites.
  • Low Tracking Error: Tracking error is the difference of ETF returns and index returns. Tracking error should be low, because higher tracking error usually implies lower returns. AMCs usually disclose the tracking errors in their monthly fund
  • Low TERs: TERs is one of the major sources of tracking errors in ETFs. Higher the TER, lower will be your returns in the long term. AMCs disclose TERs of their mutual fund schemes on their portals, scheme information documents and monthly fund factsheet. Invest in ETF with low TER; consult with your financial advisor if you need help.

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