Glossary of Key ETF Terms
Exchange-Traded Fund (ETF)
An ETF is an investment fund traded on stock exchanges, similar to individual stocks. It holds a basket of assets like stocks, bonds, or commodities and aims to replicate the performance of an index, sector, or strategy.
Exchange-Traded Product (ETP)
A broad term that includes all investment products traded on stock exchanges, such as ETFs, ETNs (Exchange-Traded Notes), and ETCs (Exchange-Traded Commodities).
Exchange-Traded Note (ETN)
An ETN is a debt instrument issued by a bank or financial institution that tracks an index or asset but does not hold the actual securities. ETNs carry credit risk because their value depends on the issuer’s financial strength.
Exchange
A marketplace where financial instruments, like stocks and ETFs, are bought and sold. Examples include the New York Stock Exchange (NYSE) and NASDAQ. ETFs trade on exchanges, offering liquidity and flexibility.
Intraday Trading
ETFs can be bought and sold throughout the trading day, just like individual stocks. Their prices fluctuate during the day based on supply, demand, and market activity.
Net Asset Value (NAV)
The NAV is the total value of an ETF’s assets (stocks, bonds, etc.) minus liabilities, divided by the number of shares outstanding. NAV is calculated at the end of each trading day.
Leverage ETFs
Leverage ETFs aim to deliver multiples (e.g., 2x or 3x) of the daily performance of an index. For example, a 2x S&P 500 ETF aims to double the index’s daily returns. These are ideal for short-term trading but can carry higher risks due to compounding.
Inverse ETFs
Inverse ETFs aim to deliver the opposite performance of their benchmark index. For example, if the S&P 500 falls by 1%, an inverse ETF tracking it would rise by 1%. These are often used for hedging or short-term strategies.
Factor ETFs
Factor ETFs are built to target specific factors or characteristics that drive investment returns. They combine aspects of active and passive investing (often called Smart Beta ETFs). Key factors include:
Value: Stocks that are undervalued relative to their fundamentals.
Momentum: Stocks with strong recent performance trends.
Quality: Companies with solid financials, such as strong earnings or low debt.
Low Volatility: Stocks with more stable, lower price swings.
Size: Exposure to small-cap or large-cap stocks.
These ETFs allow investors to customize their portfolios based on specific strategies or market conditions.
Thematic ETFs
ETFs that focus on specific themes or trends, such as clean energy, robotics, artificial intelligence, or ESG (Environmental, Social, Governance). They allow investors to align their portfolios with emerging trends or innovative sectors.
Sector ETFs
Sector ETFs target specific industries or segments of the economy, such as technology, healthcare, energy, or financials. These ETFs are used to gain exposure to sectors with growth potential or specific opportunities.
ESG (Environmental, Social, Governance) ETFs
ESG ETFs invest in companies that meet specific sustainability, social responsibility, and ethical governance standards. These funds allow investors to align their investments with their values while targeting competitive returns.
Index
An index is a tool that tracks the performance of a group of stocks or bonds. Examples include the S&P 500 (U.S. large-cap stocks) or the MSCI World Index (global equities).
Active ETFs
These ETFs are actively managed by portfolio managers aiming to outperform a benchmark index. They can carry higher fees compared to passive ETFs.
Passive ETFs
Passive ETFs aim to mirror the performance of a specific index (e.g., S&P 500). They are lower-cost because they require no active management.
Expense Ratio
The annual fee charged by the ETF provider to manage the fund. Expressed as a percentage of your investment, ETFs typically have lower expense ratios compared to mutual funds.
Liquidity
Liquidity refers to how easily an ETF can be bought or sold on the market. ETFs with higher trading volumes tend to have tighter bid-ask spreads, meaning lower costs for investors.
Bid-Ask Spread
The difference between the price a buyer is willing to pay (bid) and the price a seller is asking for (ask). Tighter spreads are typically found in ETFs with higher liquidity.
Tracking Error
The difference between an ETF’s performance and the performance of its benchmark index. Tracking error can arise from management fees, cash holdings, and trading costs.
Accumulating ETFs
ETFs that reinvest dividends back into the fund instead of paying them out, allowing for compounding growth.
Distributing ETFs
ETFs that distribute dividends or interest directly to investors at regular intervals, such as quarterly or annually.
Physically Replicated ETFs
ETFs that directly hold the actual securities in the underlying index, offering greater transparency.
Synthetically Replicated ETFs
These ETFs use financial derivatives (e.g., swaps) to replicate index performance rather than holding the actual securities. This method allows access to hard-to-reach markets but carries counterparty risk.
UCITS (Undertakings for Collective Investment in Transferable Securities)
A European regulatory framework ensuring ETFs and other funds are safe, transparent, and accessible to investors.
Diversification
The practice of spreading investments across multiple assets to reduce risk. ETFs offer instant diversification by holding a basket of securities.
Market Maker
A market participant (often a bank or brokerage) that facilitates ETF trading by continuously buying and selling shares to maintain liquidity.
Creation/Redemption Process
The mechanism where Authorized Participants (APs) create new ETF shares or redeem existing shares to manage supply, demand, and pricing.
Total Cost of Ownership (TCO)
The total cost of owning an ETF, which includes the expense ratio, trading commissions, and bid-ask spreads.
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