Strategy Investors Should Follow To Choose An ETFs: Key Parameters

What is an Exchange Traded Fund (ETF)?

ETFs are basic and simple investment solutions that combine the freedom of stock investing with the simplicity of equity mutual funds. ETFs, like any other firm stock, trade on the National Stock Exchange's cash market and often tracks a market index, such as the Nifty or Sensex. It can be purchased and sold at market prices indefinitely. As a result, ETFs combine the characteristics of a stock and a fund. Today, the Indian mutual fund sector includes a number of ETFs spread across three asset classes: equities, debt, and gold.
 
 Equity ETFs are passive investment vehicles that are based on indices and invest in securities in the same proportion as the underlying index. An ETF's holdings are completely transparent due to its index mirroring nature. Furthermore, because of their distinct structure and production procedure, ETFs offer substantially lower expense ratios as compared to mutual funds.

Limit The Choices And Check Competition Among Peer ETFs

Investors should first step is to filter down a wide range of ETFs available and focus on only those that are promising and fits your portfolio and long-term investing plan. Limiting your ETF selection could help you to have better options to choose from. There are ETFs that focus on market size and those that focus on investment style categorized into value, growth, and a combination of both value and growth.

Talking about competition, the ETF market has become a competitive market. However, it's good for investors as they get benefited from this competition, but this leaves the potential ETF investor confused. To solve this, check the right Peer ETF you are particular about investing. 
 

5 Key Parameters of ETF selection

Trading Activity

Daily trading volume in the most popular ETFs exceeds millions of shares. Understanding whether or not the ETF under consideration trades inadequate volume on a daily basis aids in ETF acquisition. Trading volume, regardless of asset type, is a great measure of liquidity. In general, the larger an ETF's trading volume, the more liquid it is likely to be and the tighter the bid-ask spread. These are very critical factors to consider when it comes time to sell the ETF.

Underlying Index

An ETF monitors an index, thus considering the underlying index or asset class on which the ETF is based before deciding which index to invest in. Investing in an ETF based on a broad, widely followed index may be preferable to investing in an obscure index with a restricted sector or geographic concentration. Large-cap stocks are represented by Sensex and Nifty. As a result, investing in ETFs that follow them is equivalent to investing in large caps. There are also ETFs that follow mid and small stocks.

The ETF Market Price and NAV 

The ETF market price is the price at which ETF shares can be purchased or sold on exchanges during trading hours. An ETF's NAV is the value of each share's share of the fund's underlying assets and cash at the conclusion of the trading day. The price and NAV of a good ETF will change in an orderly fashion. This sync may be disrupted from time to time owing to supply-demand dynamics. As a result, while investing in an ETF, always consider the price-NAV spread. Having an understanding of the difference in both helps you to know your purchase is expansive or not.

Tracking Error

While the majority of ETFs carefully track their underlying indexes, some may not monitor them as closely as they should. If all else is equal, an ETF with a low tracking error is preferable to one with a higher degree of inaccuracy. The tracking error measures how closely an ETF follows its underlying index. The lesser the margin of error, the better.

Expenses

Expenses are the most anticipated key parameter for every investor search. It is a significant factor to consider when selecting a fund. There are two cases, where investor of expanses that investors can look upon. First, in the actively managed funds, an investor may favor performance over expenditures, Second, in the ETFs, when the returns are practically assured to be similar to the underlying index, it makes sense to choose the cheapest ETF. Choose the cheapest of two ETFs that follow the same index.