Exchange traded funds or ETFs is a distinct mutual funds category that provides investors a safe route through passive investing. ETFs are index funds listed as well as traded on exchanges similar to stocks. And a basket of securities that is representative of the index constituents make up the ETF. The underlying portfolio of the ETF can include either a mix of equity, fixed-income instruments or commodity.
In the current scenario when the government has increased its equity exposure through the ETF route for retirement funds and has traversed on the path of divesting stake in PSUs via CPSE ETF and the recently launched Bharat 22 ETF, ETFs are fast growing. In fact this year, ETF market doubled assets under management with a record breaking over-subscription to the tunes of Rs. 31000 crore for Bharat 22 ETFs issue size of Rs. 8000 crore.
Now, let us study the few factors that should decide your investment in an ETF:
Liquidity: As with other investments, ETFs with ample liquidity enable investors to buy and sell them on exchanges easily. This means trading volume in ETFs should be sufficient on exchanges. Liquidity in underlying assets of the ETF should also be weighed upon as then the fund shall be able to invest in those at a lower cost.
Expense ratio should be low: Annual expenses or charges of a mutual fund including fund expenses, administrative fees, operating costs, management fees and other asset based costs is charged from investors as expense ratio. Index based ETFs and banking ETFs are provided at 5-10 and 15-20 basis points expense ratio. One basis point is one-hundredth of a percentage point.
The recently launched BHARAT 22 ETFs boast of a low expense ratio of upto 0.0095% for three years from listing of units of BHARAT 22 ETF.
Tracking error should be low to match the returns from benchmark indices: Tracking error measures the performance of ETFs against their own benchmarks and lower the error, more close is the return from ETF to the benchmark index. Before betting on an ETF, investor should ensure low tracking error over a long period of the scheme.