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ETF in India: Types, Benefits, and Limitations

Exchange Traded Funds (ETF) are considered similar to stocks...

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Sep 15 2021
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Exchange Traded Funds (ETF) are considered similar to stocks which can be termed as the vessel of securities that can be traded on the stock market. ETFs pool financial resources from the interested people to utilize them for purchasing several types of tradable monetary assets like shares, debt securities, including derivatives and bonds. Almost every ETF in India is registered under the Securities Exchange Board Of India (SEBI). Investors who have limited expertise in the stock market can always take advantage and kick-start their career in stocks with ETFs.


Exchange Traded Funds (ETF): How Does It Work?


ETFs share the features of both mutual funds and shares. These ETFs are generated via creation blocks and traded in the form of shares at the stock market. The ETF manager issues ETF units against the deposit of shares and cash component, by various categories of investors like institutions, authorized participants. And a large unit of ETFs is termed as "Creation block". These funds are enlisted on every significant stock exchange that can be bought or sold according to the needs at the time of equity trade. Your ETF share price fluctuates depending on the value of the underlying assets included in the pool of financial resources. If the cost of one or two assets increases, the ETF share price rises simultaneously and vice-versa. Your ETF company's asset management and performance decide the value of dividend to expect as an ETF shareholder.


Types Of Exchange Traded Funds (ETF)


Some widely preferred and common types of ETF funds in India are: 


1. Equity ETF: Here, ETF companies invest in shares and other types of equity for several organizations.


2. Gold ETF: It is a type of commodity exchange-traded fund that mainly includes physical gold assets. With the investment on shares of this company, you become entitled as the gold owner on paper, without any hassle for asset protection.


3. Debt ETF: ETF companies that invest and deal with fixed return securities like bonds and debentures are termed debt ETFs.


4. Currency / Liquid ETF: Primarily, the exchange rate fluctuation leads to the revenue in this type of ETF. The future performance of the currency of a country is calculated on prediction to purchase that currency. The other assets that fall under this category are call-money, money market instruments & short dated government securities.


5. International ETF: Such an ETF invests in securities of companies based in foreign countries and thus can be either highly diversified in nature, or can be of quite selected composition if the ETF is pegged to a certain index.



Benefits Of Exchange Traded Funds (ETF)


There are numerous benefits of investing in ETF India rather than investing in shares or mutual funds of any company. Some of the benefits are listed below.


1. Diverse Pool of Securities - Benefits of Investing In Companies:

If you buy shares of a company, you will stay limited to their performance, imposing a higher degree of risk. However, if you invest in ETFs, you will be able to spread out your finances over the equities of different companies, lowering your risk significantly. So, even if one of your assets underperforms, you can compensate by the growth of other assets. 


2. Lesser Expenses - Benefits Of ETF Over Mutual Funds 

Reduced or lesser expenses are considered one of the significant benefits of investing in ETFs over mutual funds. You must know that mutual funds include several charges like management fees, entry and exit load, etc., which increases the overall cost incurred, resulting in a boost of the total expense ratio. However, ETFs are traded similarly to shares in the stock market, considerably lowering its expense ratio. 


3. Flexibility In Tradable Security

You can instantly observe and check the value of an ETF and buy or sell them anytime during business hours. So, you can conclude that ETFs have a higher liquidity ratio when compared to mutual funds. This entitles you with the flexibility to make investment decisions, enables you to choose another ETF security without hassle if the current asset is not generating any revenue for you. 


4. Tax Friendly Option

When compared to mutual funds, ETF funds become more tax-friendly. Despite both being subjected to dividend taxes and capital gains, ETFs allow investors the flexibility to choose indexation benefit while calculating the long term gains. ETFs also charge fees much lower than those charged for mutual funds. 


5. Passively Managed For Minimal Risk Involvement 

ETFs are passively managed by the companies to ensure minimal risk involved for the investors. The ETF companies invest in the top-performing companies enlisted in the stock exchange, whereas mutual funds incorporate every business's potential for growth. This imposes higher risk as investing in newly formed small companies incurs an increased risk of loss. 


Exchange Traded Funds (ETF): Limitations To Know


There are some shortcomings you must know before investing in an ETF company. Some of the limitations to be aware of are listed below. 


1. Need For Demat Account And Brokerage Fees:

As ETFs are traded like shares, several additional expenses will be incurred while buying them. This work is done by the fund managers, who charge a commission fee for such transactions. Also, you will need a Demat account to invest in ETFs. You must have the basic knowledge and technique of stock market operations to control your Demat account. 


2. Instability Of The Stock Market:

The ETF companies listed on the stock exchange are subject to price fluctuations depending on the market trend. The stock market condition determines the revenue generation or loss in ETFs as it is not stable like the government bonds.


Final Thoughts

So, take the best advantage of this comprehensive guide on exchange-traded funds or ETFs to prosper your career in the stock market efficiently.

 

 

 


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