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Exchange Traded Funds (ETFs)

At a Glance

Ease of trading

ETFs can be bought or sold on the stock exchange.

Portfolio exposure

Ability to provide exposure across different markets, sectors or asset classes.

Risk diversification

Diversified your ETFs portfolio across stocks and markets, lowering risk and volatility.

What are Exchange Traded Funds (ETFs)?

An ETF is an investment fund listed and traded on the stock exchange. It is usually made up of assets linked by a similar investment profile. It aims to produce returns that reflect the performance of a specific benchmark index or its underlying assets.

Many ETFs track an index such as a stock, bond or commodity index. Their prices can fluctuate with demand and supply throughout the day. They may be adjusted from time to time to reflect the latest composition of assets that make up the index.

Types of ETFs

	These may be further sub-classified into Developed Markets ETFs, Emerging Markets ETFs and industry ETFs. For example, both the SPDR STI ETF and Nikko AM STI ETF track the STI and give exposure to Singapore’s 30 largest companies listed on the Singapore Exchange.
	These identify one or more investment themes, then build a quantitative model for the asset selection and have stocks in that index re-weighted according to the model.
	These allow investment in bonds at a scale and cost typically enjoyed by institutional investors only.
	These invest in physical commodities such as agricultural goods, natural resources and precious metals.

Ways to Earn Returns

Like stocks, ETFs can generate returns from capital gain, i.e. when the price of an ETF unit rises above the purchase price.
Investors may also be paid dividends from the underlying stocks, which are collected by the fund manager and either distributed to investors on a quarterly or semi-annually basis. ETF managers will determine if dividends are better utilized re-invested or distributed as income to investors. It is important to note that not all ETFs pay dividends.

Benefits & Risks

Benefits

Cost effective	ETFs require lower cash outlay than buying individual stocks to build a similar portfolio as an index. As most ETFs are passively managed, the fees and charges are generally lower than actively managed funds.
Diversification	ETFs allow you to spread your risks across various stocks and markets, lowering risk exposure and volatility.
Access to blue-chip stocks and foreign markets	ETFs that track indices such as the STI and S&P 500 allow you to invest in blue-chip stocks and gain exposure to foreign markets.
Ease of trading	Buying an ETF is as simple as buying a listed stock.

Risks

Market risk	Adverse market condition can affect the price of the underlying stock components, reducing the value of the ETF.
Tracking error	The fund manager may not be able to perfectly replicate the performance of the index which the ETF tracks.
Foreign exchange rates risk	ETFs priced in a foreign currency are exposed to fluctuations in foreign exchange rates. This can potentially increase or erode returns.