The crucial thing about an ETF is that the shares that make up a creation unit can be bought and sold on a continuous basis and the price of the share will move up or down in line with the value of the underlying securities that are held by the ETF sponsor. As such, it is vital that the investor knows the particular composition of the shares that make up the ETF.
There are a wide range of ETFs on the market sponsored by various institutions such as Barclays ishares, Vanguard, Fidelity investments and the like. Gne large advantage over mutual funds is that the transaction costs for ETFs are much lower. Also, you can buy as little as one ETF rather than a minimum commitment of capital, as required for a mutual fund. ETFs are classified as passive managed investments in that their composition is pretty much fixed, although there can be occasional changes in the underlying shares. This makes them quite similar to certain index tracking mutual funds but very different from actively traded mutual funds. ETFs come in many forms.
Some are made of shares that track particular stock exchange indices, like the so-called ‘spiders’ – Standard 8: Poor Depository Receipts (ticker symbol SPY) – that track the prices of shares in the S&P 500. lf each share of a spider represents one-tenth of the S&P index and the S&P 500 reads 1000 then the SPDR I is priced at $100.
Other index-tracking ETFs are ‘diamonds’ (ticker symbol DIA) that track the Dow jones Industrial Average or the Nasdaq 100 Tracker Fund (ticker symbol QQQQ) that tracks 100 of the most prominent NASDAQ shares. ETFs have become so popular with investors that there are now hundreds available, and they cover not just ownership of shares comprising well known stock indices but also particular sectors such as technology or media shares or small cap stocks. According to the Investment Company Institute, in May 2009 there were 712 ETFs in the USA and the total value of assets held by ETFs was $582 billion. There is also a proliferation of ETFs which represent ownership of bonds, commodities. foreign stocks, and even foreign currencies. For example, a bond ETF may invest in US Treasury bonds or perhaps a selection of high yield corporate bonds. With a currency ETF an investor can track the movement of an individual currency like the pound or the euro or a basket of currencies such as one composed of the yen, Swiss franc and the euro.
Similarly with a commodity ETF investors can go long or short on a particular commodity such as oil or gold or a basket of commodities. Since mid 2006. investors have been able to buy long or short leveraged ETFs that track a particular stock index – in a 2:1 leveraged ETF if the stock index rises by 2 per cent then a buyer of the leveraged ETF will experience a return of approximately 4 per cent, whereas if it falls by 2 per cent the buyer will lose approximately 4 per cent.
