What are ETFs?
ETFs: definition and objective
ETF stands for “Exchange-Traded Fund”.
ETFs are financial instruments quoted on a stock exchange that track the movements on a given market or sector in real time via a representative market index.
An ETF’s objective is to replicate as closely as possible the evolutions of a market index in terms of performance, i.e. with a minimal tracking error.
Much like the index it replicates, an ETF’s performance can increase or decrease, and the investment is exposed to risks that should be considered carefully before making any investment decision.
Practical example of an ETF
- The MSCI World index is made up of 1,637 stocks* representing mid and large cap companies in 23 developed countries.
- Investing €10,000 in the MSCI World ETF is equivalent to investing €10,000 divided up among the 1,637 stocks comprising the MSCI World index...while placing a single order on the market.
If the MSCI World index gains 3%, the MSCI World ETF will also gain 3%*. Similarly, if the index loses 3%, the ETF’s performance will drop by 3%.
* Source MSCI as of 24/10/2018
** Not including ongoing charges
Specific features of Exchange Traded Funds
As investment vehicles, ETFs offer multiple advantages. They are innovative: they combine the features of both funds and stocks, and all at a lower cost:
Like funds, ETFs provide an opportunity to invest in a selection of different securities in a single vehicle. They give instant, easy access to all types of markets and asset classes, all around the world. ETFs & funds are both managed by an asset manager.
Like stocks, ETFs are continuously listed on stock exchanges. Investors can easily buy and sell them during trading hours, while knowing their prices at any given time.
The fees charged on ETFs are especially attractive. This is one of the benefits of index management – also called passive management – which presents a reduced cost structure.
Why invest in ETFs?
A simple, easy-to-use solution
ETFs offer a practical solution for investing instantaneously in any market, sector or asset class. Their investment objective is easy to understand, making them easy to use for any investors, whatever their needs or strategy.
Diversification of securities and risks
By investing in a single ETF, investors can access a specific market consisting of hundreds, and even thousands, of securities. This makes ETFs a great tool for diversifying a portfolio while spreading risks. There is a vast selection out there: ETFs come in all asset classes (equities, bonds, etc.) and geographic regions, and can be exposed to a very large number of business sectors or investment themes spanning the entire world.
Reduced ongoing charges
An ETF’s ongoing charges (i.e. management and administrative fees) are often lower than those charged on other traditional financial instruments. The ETF applies a simple strategy: namely to reproduce the performance of a given index. No more, no less. This is known as an index or passive management strategy, which offers the advantage of lower structural costs.
Strict rules governing transparency
The price of an ETF is known at all times via its Net Asset Value (NAV). In addition, its composition, which reflects that of its index, can be viewed without restriction on the asset management company’s website. Lastly, ETFs are regulated products governed by strict investment and transparency rules. They comply with the European standards set by the UCITS V Directive*.
Openly available investments traded on the stock exchange
ETFs are listed on stock exchanges and can be easily traded when the markets are open.
Investors are free to buy and sell them during these hours.
* UCITS – “Undertakings for Collective Investment in Transferable Securities“ – European Directive 2014/91/UE
Learn more about the index universe
An index is an indicator that tracks the performance and trends over time of a sample of securities (stocks, bonds, etc.) representative of a given market.
The market in question can encompass a specific country or geographic area, such as the CAC 40 in France, the Euro Stoxx 50 in the euro zone or the MSCI Emerging Markets in emerging countries.
An index can also focus on a specific business sector, investment theme (e.g. Socially Responsible Investment or Artificial Intelligence) or management strategy (e.g. Smart Beta).
Learn more about indices in this video
ETFs open the door to a broad investment universe covered by indices: check out our video to find out more.