What are ETF’s ?

Fundamentals

  • An ETF is an investment product accessible to the individual investor that tracks an equity index (like the S&P 500), bonds, commodities or a basket of assets but trades like a stock on a stock exchange.
  • ETFs allow investors to buy or sell shares in the collective performance of an entire stock, bond, commodities, currencies or real estate portfolio as if it were a single security.
  • There is no ‘minimum investment’ requirement. An investor can purchase or sell as little as a single unit of the security and in multiples thereof. ETFs are typically priced in the range of $6 to $150. ETFs can also be bought on margin or sold short like any other stock.
  • ETFs experience price changes throughout the day as they are bought and sold and clearing / settlement of ETFs are done just like any other share.
  • ETFs can be bought and sold through any stockbroker. When buying or selling ETFs, you have to pay the same commission to your broker that you’d pay on any regular order.There is no entry or exit ‘load’.
  • The price performance of ETFs closely shadows that of the relevant underlying index. However, there can be slight differences (premium/ discount) in the two because of tracking errors.
  • Many ETFs have dividends that accumulate and are paid out at regular intervals. ETF expenses are typically deducted from this dividend yield.
  • ETFs are created by fund ‘sponsors’ such as State Street, BlackRock, Vanguard and distributed/ managed through ‘Authorized Participants’ that act as market makers for the ETF.

Examples: Some popular ETFs

  • SPY: The SPDR S&P 500 ETF Trust is a unit investment trust that consists of a portfolio representing all 500 stocks in the S&P 500 Index. Inception date: Jan. 1993
  • DIA: The Dow Jones Industrial Average ETF Trust consists of a portfolio representing all 30 stocks in the Dow Jones Industrial Average. The Trust entitles its holders to proportional monthly cash payments representing dividends paid by the underlying stocks. Inception date: Jan. 1998
  • QQQQ: The Nasdaq 100 Trust represents undivided ownership interests in the PowerShares QQQ. The Fund’s objective is to provide investment results that generally correspond to the price and yield performance of the component securities of the Nasdaq 100 Index. Inception date: Mar. 1999
  • IWM: The iShares Russell 2000 Index Fund seeks investment results that correspond to the performance of the Russell 2000 Index. The Index measures the performance of the small-capitalization sector of the U.S. equity market. The Fund uses a Representative Sampling strategy to try to track the Index. Inception date: May 2000
  • EFA: The iShares MSCI EAFE Index Fund’s objective seeks investment results that correspond to the performance of the MSCI EAFE Index. The Fund will concentrate its investments in stocks in the MSCI EAFE Index to approximately the same extent the Index is so concentrated. Inception date: Aug 2001
  • EEM: The iShares MSCI Emerging Markets Index Fund seeks results that correspond generally to the price and yield performance of the MSCI Emerging Markets Index. The Fund will concentrate its investments in a particular industry or geographic region to approximately the same extent the Index is so concentrated. Inception date: Apr. 2003

History of ETF’s

  • 1989 – Index Participation Shares, a proxy of the S&P 500, was traded on AMEX. However, shortly after inception the Chicago Mercantile Exchange filed a successful lawsuit stopping all sales in the US
  • 1990 – A similar product called the Toronto Index Participation Share started trading on the Toronto Stock Exchange.
  • 1993 – Nathan Most, an Executive with the exchange, created Standard & Poor’s Depositary Receipts (SPDRS) that started trading on AMEX.
  • 1996 – Barclays Global Investors, a subsidiary of Barclays Plc entered with World Equity Benchmark Shares (WEBS). This fund innovated ease of use for the every-day investor to invest in the foreign market.
  • 1998 – State Street Global advisors introduced ‘Sector Spiders’ to the market. ‘Sector Spiders’ were created to follow the nine sectors of the S&P 500. Also introduced in 1998, ‘Dow Diamonds’ tracked the Dow Jones Industrial Average.
  • 1999 – Asia introduced its first ETF, the Hong Kong Tracker Fund.
  • 2001 – Europe’s Euro STOXX 50 ETF
  • 1993-2010 ETF Market Capitalization Chart

 Leading ETF Issuers/ Sponsors in the US

  Issuer Asset (Bn.) ETFs Website
1 iShares – BlackRock $364 186 www.ishares.com
2 State Street Global Advisors $149 88 www.spdretfs.com
3 Vanguard $92 46 www.vanguard.com
4 Invesco PowerShares $33 106 www.invescopowershares.com
5 ProShares $23.2 78 www.proshares.com
6 Van Eck Global $12.5 23 www.vaneck.com
7 WisdomTree $6.5 52 www.wisdomtree.com/etfs
8 Direxion $5 26 www.direxionshares.com
9 Rydex SGI $3.1 31 www.rydexfunds.com/etf
10 Claymore $2.9 32 www.claymore.com/etfs

Source: 2010 Q1 Report on ETFs