Exchange traded funds (ETFs) have been here for quite some time, but have not caught fancy of retail investors due to lack of awareness and understanding about the nature of ETFs. However, one can earn decent returns and also reap the benefits of diversification of portfolio with judicious investments in ETFs of various asset classes.
Consider this: On March 9, 2009, Sensex had touched its 40-month nadir when it closed at 8160. Just about 16 months later on 23 July, 2010, the Sensex closed at 18,130, a whopping increase of more than 10,000 points. Also consider this, in Sept. 2008, the gold price was hovering around Rs 12,500 per ten grammes. On June 1, 2010, the gold price had touched a record high of Rs 19,000 per ten grammes, a huge rise of Rs 6,500 (over 50 per cent) within a short span of 20 months. Now, looking at the handsome returns offered by Sensex stocks and gold, how you wished you had all those 30 Sensex shares and gold in your portfolio of investments. While you could have bought gold and reaped the benefits, there is a problem with buying Sensex shares. You have to match the weightage of 30 shares in the Sensex to match the performance of the benchmark index. Even with gold, if you buy ornaments, you have to reckon with ‘making charges’ which otherwise eat into your profits (unless you buy gold coins or bars). Also, purity of gold and its safety and security are some key issues you have to deal with if you buy the yellow metal.
Now, if you do not want to get into the hassles of matching the weightage of Sensex shares in your portfolio or buy gold and be worried about its purity and security, there is a way out. You can just buy Sensex (or, if you wish, Nifty) exchange traded fund (ETF) and gold ETF to reap the returns offered by Sensex and gold, sans all the hassles and worries. But its not just index and gold ETFs, one can invest in currency and bond ETFs too and get take advantage of fluctuation in currency and interest rates, respectively.So, let us see how to invest in the ETFs.
Basket of Stocks: ETF is basically a single stock representing a basket of stocks comprising an index such as Sensex or Nifty. The ETF trades at a value which is based on the net asset value of the underlying stocks that the index represents. ETF offers built-in diversification because the basket comprises of all the stocks in the particular index. It also offers flexibility of a stock as an ETF can be bought or sold during market hours. Just as individual equity securities are traded on the stock exchange, ETFs are also traded on a stock exchange and can be bought or sold during the day through a broker just like a Reliance Industries or L&T stock. Hence, it is evident that there are advantages galore of investing in ETFs.
Types of ETFs: Broadly speaking, there are four types of ETFs, namely, index, commodity, bond and currency. A particular index, commodity, bond or pair of currencies are the underlyings for these ETfs and the movement of these underlyings are reflected in the movements of these ETFs. Let us understand each of these ETFs in detail.
Index ETFs: In India, we have ETFs of various indices such as Sensex, Nifty, Junior Nifty, S&P CNX 500 and Hang Seng. The index ETFs try to mimic the performance of these indices by investing in stocks comprising these indices. The investment is done exactly in proportion to the weightage given to these stocks in these indices. For example, Benchmark Mutual Fund’s Nifty BeES invests in the 50 stocks comprising NSE’s Nifty index and the allocation of funds is done based on the weightage given to each of these scrips in Nifty. Nifty BeES is available at about a tenth of the value of Nifty, hence when the Nifty value was 5449 on July 23, the Nifty BeES closing NAV was Rs 549.34. Nifty BeES is managed by fund manager Vishal Jain of Benchmark MF. The minor difference in the index value and NAV of Nifty BeES is due to tracking error and fund expenses (which are about half to one per cent per year). The face value of Nifty BeES is Rs 10.
Similar to Benchmark’s Nifty ETF, ICICI Prudential and Kotak Mutual Fund have made available Sensex ETFs at 1/100th value of Sensex. Hence, while the Sensex closed at 18,130 on 23 July, 2010, Kotak MF’s Sensex ETF traded at Rs 182.65, while ICICI Prudential MF’s Sensex ETF (called SPIcE) traded at Rs 170.77. Apart from the ETFs of the two major indices, ETFs are also available for other indices such as Nifty Junior, S&P CNX 500, etc.
Segment ETFs: ETFs are also available for a particular segment of stocks such as banks, PSUs, Shariah-compliant stocks, etc. These ETFs invest in stocks comprised in indices of the particular segments. Hence, Benchmark’s Bank BeEs invests in the 12 banking stocks comprised in the CNX Bank Index. Here too the value of ETF is one-tenth of the value of CNX Bank Index, hence while the index closed at 10,093.90 on July 23, 2010, the Bank BeES closed at Rs 1,022 on the same day on NSE. Similarly, when the CNX PSU Index closed at 3867.92 on 23 July, 2010, the PSU Bank BeES closed at Rs 395. Benchmark’s Shariah BeES invest in underlying securities of the S&P CNX Nifty Shariah Index. As the name goes, the Shariah Index comprises of only those companies which are compliant with the tenets of the Shariat. Hence, companies whose business involve manufacturing liquor, tobacco, giving or taking loans on interest are not considered Shariah-compliant, while companies from industries/sectors such as engineering, IT, refineries, telecom, power, etc. are included in the index and considered for investment.
The Shariah BeES were quoted at Rs 125.94 when the Shariah Index closed at 1260.85 on 23 July, 2010.
Commodities ETFs: These ETFs invest in commodities, such as precious metals and their futures. However, in India only gold ETFs are available for trading. Many of the mutual fund houses such as Benchmark, Kotak, Reliance, SBI, UTI, Religare and Quantum have launched gold ETFs. The funds received by the mutual fund are invested in gold. As with index ETFs, the value of gold ETFs is one-tenth the value of gold. The price of gold on 23 July, 2010, was Rs 18,350 per 10 grammes, while the prices of the ETFs on BSE were as follows: Benchmark – Rs 1,804; Kotak – Rs 1,795; Reliance – Rs 1,748; SBI – Rs 1,830; UTI – Rs 1,800; Religare – Rs 1,832. Quantum’s gold ETF is priced at half the price of gold and was quoted at Rs 898 on the day. The face value of all the ETFs is Rs 100.
Debt ETFs: The only debt ETF available in India is the Liquid BeES of Benchmark. According to Benchmark, the funds are invested “in a basket of call money, short-term government securities and money market instruments of short maturities while maintaining safety and liquidity.” The face value of Liquid BeES is Rs 1,000 and the AMC endeavours to keep the daily NAV of Liquid BeES around Rs 1,000, which is evident from its 52-week high-low of Rs 1002-Rs 999.99 on BSE. Returns accrue to the investors in the form of daily dividend which is compulsorily reinvested in the fund on a daily basis.The units arising out of dividend reinvestment are credited to the demat account of the investors once every month.
Currency ETFs: Currency ETFs are not yet available in India, but with stiff competition envisaged among currency exchanges MCX-SX and United Stock Exchange (promoted by 21 PSU banks and others), the day is not too far off when currency ETFs will be available to the investors along with currency futures.
Returns on ETFs: The returns generated on ETFs broadly correspond to the returns on the underlying. Hence, for example, Kotak’s Sensex ETF would broadly provide returns which are equivalent to Sensex returns.
So, if the Sensex, which is currently around 18,000 level, goes up to 20,000 level by October 2010, the returns would be around 11 per cent within a span of three month. Hence, if one were to invest now in a Sensex ETF at Rs 180 level, the NAV of the ETF would go up to around Rs 200 by October ’10 giving similar returns (around 11 per cent) to the investor.
Let’s take an example. SPIcE, the Sensex ETF of ICICI Prudential MF, has closely followed the performance of Sensex. The CAGR of SPIcE for the last one, three and five years and since inception is 15.50, 5.55, 20.8 and 25.22, respectively, is very close to Sensex CAGR of 15.77, 5.22, 20.32 and 24.47, respectively (see box). A CAGR of 25.22 per cent over a period of seven-and-half years is an impressive gain by any standard.
It is evident that investing in index ETFs gives the benefit of investing in all the index stocks, minus the hassles of monitoring the weightage of the respective stocks in the index. However, one ust also keep in mind that, when the particular index soars the NAV of the ETF also soars, but when the index tanks, the NAV also slumps. So, one must closely follow the particular index to understand when to buy or sell the ETF. It is observed that Hang Seng ETFs are also available for investment in India, which means that one can invest in the companies comprising of Hang Seng index of the Hong Kong Stock Exchange and reap the benefits of investing in the stocks of those companies.
Similar to index ETFs, the gold ETFs trace the price movement of gold and deliver the returns similar to the returns on investment in gold.
Buying ETFs: ETFs are basically funds which can be easily traded on the stock exchange like shares of companies. Of course, ETFs can also be bought from the fund house itself but unlike stock exchange where one can buy even a single unit of the ETF, the fund house may specify a lot size which may be anywhere between 100 to 1000 units. Hence, for small investors, buying from the stock exchange is feasible, while those willing to invest a sizeable amount can purchase the ETFs directly from the fund house. One can buy and sell ETFs online through a broker during market hours, for which one must have a demat account with the broker.So, if you are bullish on Sensex/Nifty, or PSUs, banks or gold, go ahead and buy the respective ETF and enjoy the returns from the underlying assets of your choice.
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Source : DSIJ
