An exchange-traded fund (ETF) is a type of security that tracks an index, sector, commodity, or another asset by creating returns closest to movements of the index or underlying assets. The special feature of ETFs is that they can be traded in real-time on a stock exchange just like regular stocks.

In other words, an ETF brings together the outstanding features of index funds and stocks, allowing investors to diversify better than they can with individual stocks. With a professional team managing the investment, ETFs also contain mechanisms to protect unitholders, just like mutual funds. Orders can be submitted in real-time just like regular stock trading, without having to wait until the end of the day to discover prices.
 

Highlights of ETFs

• Buy and sell in real-time like stocks.
• Risk diversification. For example, investing in a mutual fund based on the SET50 Index is like buying 50 stocks.
• Lower fees (same as stock trading fees)
• Minimum investment of only 100 units
• No tax on capital gains

ETFs listed on the Stock Exchange of Thailand are as follows:

• Equity ETFs / Index ETFs targeting returns tracking domestic stock indices.
• Sector ETFs targeting returns based on industry indices.
• Foreign ETFs targeting returns based on foreign equity indices.
• Gold ETFs targeting returns based on the gold price index.
• Bond ETFs targeting returns based on bond price indices

Differences between ETFs, Stocks, and Mutual Funds

For ETFs, market makers play an essential role in ensuring the continued and efficient exchange of securities between buyers and sellers. As an index-based investment, having a market maker will help trading prices remain consistent with the rise and fall of the underlying index.

Returns versus Risks

• Capital Gains: When investors buy at a low price and sell at a higher price they will earn profits from the difference.
• Dividends: Investors can receive dividends from holding ETFs that have a dividend policy. The fund manager will allocate dividends after deducting fees and expenses.

Risks

• Price risk or market risk is the risk arising from the fluctuation of ETF prices or the return of the underlying assets due to changing economic, social, and political conditions. It is a risk that cannot be avoided.
• The risk that an ETF cannot generate the same returns as the movement of the underlying index (Tracking Error), caused by a number of reasons, such as the cost of the fund, the ability to hold assets in accordance with the reference index, liquidity of the underlying assets, and other factors.  Those factors can deviate the fund's yield from that of the underlying index, either higher or lower.   

•        Risk of the underlying index, such as risks involving companies that are components of the underlying index.

•         Foreign exchange risk from offshore underlying securities. 

What kind of investors are suited to investing in ETFs?
 

Because ETFs are considered an essential tool for efficient asset allocation they are suitable for all investors. Even investors with low-risk appetites can invest in ETFs according to their acceptable risk level.  Investors can also choose to invest in bond ETFs instead of fixed income funds if bond ETFs better match their requirements. 

For beginners, an ETF can be used as a starting point for their investment as it does not require much money for investment, while better able to diversify risks managed by professional investment teams.

Investors seeking to invest long term can also choose to invest in ETFs, either for higher returns or for future dividends.

Investors interested in ETFs can study details from the ETF prospectus, which is an important document explaining details of investments such as investment policies and trading conditions.  ETF issuers will also publish fund fact sheets summarizing the ETF's important details on a monthly basis, such as investment details, performance, and an ETF annual performance report for distribution to investors.  Investors can obtain ETF details from the websites of the Securities and Exchange Commission (SEC), Stock Exchange of Thailand, and ETF issuers.

By Nipapun Poonsateansup, CFP®, ACC

Independent Financial Advisor, Author, and Speaker