Exchange traded funds (ETFs)
Exchange traded funds (ETFs) can be a low-cost way to get
investment returns similar to a share index or another underlying asset.
However, some ETFs are more complex and risky than others. Here we
explain the risks and what you need to know before you invest.
What is an ETF?
An ETF is a type of investment fund that can be bought and sold
on a securities exchange market. In Australia, ordinary ETFs are
'passive' investments that track an asset or market index (for
example, the ASX200 Australian share index). They generally do not
try to outperform the market and will go up or down in value in
line with the index they are tracking.
If an investment is called an Active ETF then the fund manager
is actively trying to outperform the market or index to achieve a
different investment objective. See other exchange traded
products for information on Active ETFs.
The difference between physical
and synthetic ETFs
ETFs are available for a broad range of assets including
Australian shares, international shares, fixed income products,
foreign currencies, precious metals and commodities. They can be
used as a way to diversify your investment portfolio, and
usually have lower fees than a traditional managed
Standard or 'physical ETFs' buy the underlying investments (such
as shares and other assets) on the reference index that the ETF is
seeking to track.
If you invest in an ETF, you won't directly own the underlying
investments, the ETF will own these, you will own units or shares
in the ETF.
Your main investment risk is the performance of the underlying
shares or other assets. Other risks are discussed below.
Synthetic ETFs have a material exposure to derivatives as well as the underlying
assets that the ETF is seeking to track. Along with the
benefits and risks of physical ETFs, synthetic ETFs
have additional risks such as the credit risk associated with
the derivative counterparty. Find out more about synthetic
When the product is not an ETF
Some products that also track an index or other investments may
'look and feel' like ETFs, but they are not ETFs. Products labeled
'exchange traded commodities', 'exchange traded notes', 'exchange
traded certificates', and 'exchange traded securities' are not
There are also Active ETFs, sometimes referred to
as exchange traded managed funds and exchange traded hedge
funds that, unlike passive ETFs, do not simply track an index.
They may use strategies to try to outperform an index or
seek enhanced returns. The risks of these products can be different
and sometimes much higher than the risks of ETFs.
See other exchange traded
products for more information.
How to buy and sell ETFs
The value of a physical ETF investment can rise and fall daily,
usually in line with the index it is tracking.
Here are some tips on what to look for before you invest.
Check the price
You can check if the ETF is fairly priced by comparing the offer
price (if you're buying) or the bid price (if you're selling)
quoted by a broker, with the latest net asset
value (NAV) information available for the ETF.
Many ETF issuers provide NAV updates in 'real-time'. These real
time price updates are referred to as the indicative or intraday
NAV or the 'iNAV'. You can access the latest iNAV from your broker
by prefixing the ETF ticker code with a 'Y' (for example, 'YABC'
for ticker code 'ABC'). ETF issuers may also regularly
update their estimated NAVs on their website.
Price errors (gapping)
The market price of an ETF unit should be close to the NAV per
unit of the underlying assets. If the offer price you are
quoted by a broker is significantly above the NAV, there is a risk
you might pay far more for an ETF than it's worth. If the bid price
is significantly below NAV, there is a risk you could sell for less
than the value of the underlying investments.
ETF prices will not exactly mimic the price of the index or
investment they are designed to track, due to fees,
taxes, and other factors. This is called a tracking error.
Under the ASX Quoted Assets (AQUA)
market operating rules, some issuers need to engage 'market
makers', who aim to ensure that the ETF's price stays relatively
close to its NAV. This helps create a more liquid ETF market.
Timing of trades for market-tracking ETFs
To receive an ETF price that is closer to the value of the
underlying assets, place orders to buy or sell units at least 30
minutes after the share market opens.
It is also better to buy or sell ETFs when the market for
the underlying asset is open. For example, if you're buying or
selling a fund that tracks Asian shares, try to place your
orders when the Asian market is open. This may reduce price
discrepancies between the ETF and the price of the shares that it
What will your investment
While ETFs may have lower fees compared with other managed
investments, management fees can vary and may be higher than the
fees of an equivalent unlisted or unquoted index fund.
You will also pay brokerage fees when you buy or sell ETF units.
If you want to make a small regular investment in a product that
tracks an index, you might be better off using an unlisted managed
investment such as an index fund where broker fees won't
apply to each contribution, although other fees may apply.
The 'buy-sell spread' (the difference between the prices that
you can buy and sell ETF units at) could be considered a cost for
you when you buy or sell ETF units, although market makers usually
ensure the spread remains relatively small.
If you're selling you can work out the 'buy-sell spread' by
subtracting the bid price from the NAV to calculate a 'dollar
spread' and then dividing the 'dollar spread' by the 'bid price' to
get the 'percentage spread'.
If you're buying you can calculate the 'dollar spread' by
subtracting the NAV from the offer price, and then calculate
'percentage spread' by dividing the 'dollar spread' by the offer
What are the risks?
Some ETFs offer exposure to investments such as small companies,
emerging markets or commodities that may be harder to sell in
certain circumstances, or more complex and volatile than ordinary
company shares. This could increase risks for investors.
If the ETF tracks overseas assets, changes in the value of the
Australian dollar may also affect the value of your investment.
Some funds may be 'currency hedged' to reduce this risk.
When you buy units in an ETF located in another country (but
also traded on an Australian market) foreign taxes may apply. For
example, if you buy units in a US ETF, US estate taxes may be
payable when you die.
Read the PDS to understand how your investment will be taxed,
and if you're not sure contact the ETF provider or a tax
Fixed income ETFs
Fixed income ETFs aim to replicate the performance of assets
such as bonds and debentures.
The Australian Securities Exchange (ASX) has restrictions on
what indices or non-exchange traded bonds or debentures can
underlie an ETF, however the value of the underlying assets may
rise and fall, which means the price of the ETF can also rise and
The secondary market for corporate bonds may be less active than
the market for ordinary shares, making it harder for the ETF issuer
to sell its bond investments. See ASIC's investing in corporate bonds for more information
about fixed income investments.
Read the PDS
Read the PDS carefully, ask questions and
consider getting professional advice from a licensed financial
adviser. You can also check recent market
announcements for new information on the product.
Here are some things to consider before investing in
- Liquidity - Is there an active market for the
underlying investments? You may be more likely to get a fair price
for your ETF units if the underlying assets are traded
- Derivatives - If the fund uses derivatives the risks may be higher.
- Fees - Make sure you are aware of
all the fees, including buy-sell spreads, as higher fees may
reduce your returns.
- Tax - How will the ETF returns be taxed?
- Net asset value (NAV) - Does the price you're
about to buy or sell match the NAV quoted by the ETF issuer?
- Product - Make sure you buying an
ETF. Some other exchange traded products
look like ETFs but may have much higher risks.
- Market - Are you buying a product on an
Australian market? Products traded on a market in another
country may not have the same rules and protections.
- Index - Is the index being tracked provided by a
reputable index provider? If you're not sure consider getting
advice from your financial adviser or stockbroker.
Before you invest in ETFs do your
homework. Read the PDS and consider getting advice from a
licensed financial adviser. Diversifying your investments between
asset classes and product issuers can help control your risks.
Last updated: 16 Oct 2017