Exchange Traded Funds are easy to understand. It is a fund that represents a basket of securities, like any other fund. But it can be bought or sold on the markets like a stock, unlike a mutual fund. An ETF will track all the price movements of the securities it represents, for example, the SBI Nifty 50 ETF tracks…you guessed right, the Nifty 50 index, which in turn tracks the top 50 stocks on NSE.
ETFs are composed of a basket of assets, such as stocks, bonds, or commodities, and they are managed by professional asset managers. ETFs are good at tracking indexes or sectors of the market. ETFs are a good way to diversify your portfolio.
ETFs are built by buying a basket of shares based on sectors, indexes, or other categorizations and then selling units of these shares on the markets. The shares of an ETF are held in a trust and generally do not change unless this is an actively managed ETF or the composition of the sector or index it tracks changes. The units of the ETF are fractional ownership of the different shares held in this trust. ETF, as the name suggests, are bought and sold directly on exchanges directly. ETFs are rebalanced based on the index/sector annually and there is no need for the investor to intervene in the process since this is done transparently.
Mutual funds and index funds, which are a type of mutual fund, are different since they can be bought off an exchange or from the mutual fund company. The funds that are invested are then channelled to the stocks that the mutual fund subscribes to.
Mutual fund NAV is calculated by dividing the total net assets by the total number of units issued. As against this, ETF prices change based on the principles of demand and supply every minute. So an ETF is more like a stock when it comes to price movement.
Mutual funds have different flavours, like index funds and sectoral mutual funds. At first sight, ETFs might look similar to mutual funds since the underlying assets it invests in are the same, but there are a few important differences between the two.
ETFs are a great way to have diversified (across stocks) yet focused (around sectors and indices) investments. They are flexible, generally offer good liquidity, can be traded around the clock during market hours, and have lower fees than most mutual funds. ETFs are wonderful investment instruments.
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