Types of ETFs

2019/05/03

Exchange traded funds were available in US from the beginning of the year 1993. As discussed in our earlier articles, ETF’s are index funds traditionally, but the concept changed in the year 2008 when the SEC gave the go-ahead for it been considered as an ‘actively managed’ ETF.Types of ETFs

Whatever the classifications are, the fact remains the same that ETF’s are one of the best investment tools for investors interested in the asset class. The asset allocation in an ETF include the following types: large, mid and small cap stocks & bonds, foreign stocks, value & growth stocks, emerging market stocks, real estate investment trust, gold etc.

What are the different types of ETF’s? The following types of ETF’s are available- index ETF’s, actively managed ETF’s, Bond ETF’s, currency ETF’s, commodity ETF’s etc.

What is the process in an ETF? Just like stocks, ETF’s are considered as security certificates that give the ownership right over a group of individual stocks (this time, like a mutual fund).  ETF is quite complex as different types of companies have to come together to form an ETF and to trade the ETF at a price which is very close to the underlying assets. So the process to form an ETF starts with a detailed plan prepared by a fund manager. Fund manager usually are part of big names in trading such as the Vanguard group or the Barclays etc.

The fund manager drafts the plans based on SEC guidelines for trading and decides the composition of the ETF. Once the plan is drafted, a middleman comes into picture who then literally collects the underlying assets and places them at a custodial bank for safekeeping. During the safekeeping period the fund manager also has to keep note of all the activities related to the stocks such as dividend declared etc. Next the stocks in the ETF has to get clearance from the Depository Trust. Only large institutional investors known as authorized participants buy the ETF directly from the fund manager.

They then sell it into the open market where it is sold and resold among common investors. The redemption process of an ETF is the reverse of what was just described. There is a mechanism of arbitrage in ETF process. Whenever there is a strong market demand for an ETF, the stock prices of the ETF rises temporarily above its net asset value, demanding additional creation units from the ETF to the open market. This leads to increase in market capitalization of the ETF’s.

There are approximately 1500 ETF’s in the US currently which are traded on its stock exchanges.

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