ETF Research, ETFs 101

ETF glossary

A helpful dictionary and glossary of terms for all ETF and investment related terminology.

Active ETFs: These products generally do not track an index and are more similar to actively managed funds with portfolio managers. The difference between them and rules-based products are sometimes blurred, but active ETFs are generally listed as managed funds. It is often fund managers listing their funds as ETFs as well as hedge fund products in this group.

Active investing: Also known as active management. An investment strategy that relies on picking stocks or timing the market to beat others.

ASIC: Australian Securities and Investments Commission. An independent Australian government body that acts as Australia’s corporate regulator. ASIC’s role is to enforce and regulate company and financial services laws to protect Australian consumers, investors and creditors.

Asset class: A type of investment such as shares or property, which have similar financial characteristics, are subject to the same regulations and laws.

ASX: Australian Securities Exchange.

Authorised Participants (APs): large financial institutions who create and redeem ETF units directly with the issuer.

Bear hedge fund: A hedge fund designed to provide higher returns as the market falls, it may track the inverse of an index as an ETF.

Bid/Ask spread: The difference between the highest price paid by a bidder and lowest price offered by a seller for the asset. To buy the investment you need to ‘cross the spread’ and buy from the lowest seller. On the other hand to sell the investment you need to ‘cross the spread’ and sell to the highest buyer.

Broad market ETFs: Track the widest range of securities in the market that has been selected.

Bull market: A market where share prices are rising.

Call option: An agreement that gives the investor the option to buy assets at an agreed price on or before a particular date.

Derivative: A security that is dependent on one or more underlying assets.

Diversification: Spreading your risk across may investments to reduce the impact of any single investment on your overall returns.

Distribution yield: A financial ratio that shows how much an ETF pays out in distributions each year relative to its share price.

Exchange traded fund (ETF): An exchange traded fund (ETF) is a simple cost effective way to invest in a broad range of investments like shares, bonds or commodities. Australian ETFs can be traded on the ASX in the same way as shares in a company. Rather than owning shares in a business, an ETF tracks an asset class, such as Australian shares (S&P ASX/200) or global shares (S&P 500), and provides direct exposure to a wide range of investments within that asset class.

Exchange traded managed fund (ETMF): Also known as Active ETFs, ETMFs are typically structured as managed investment schemes. These are a specific type of exchange traded managed fund that fits within the regulations set out by ASIC criteria and class orders. Some ETMFs are called Exchange Traded Hedge Funds (ETHF) which are complex instruments such as borrowing, options and short selling and are required to have the words ‘hedge fund’ in their title for identification.

Exchange traded structured products (SP): These ETPs do not typically invest in the underlying asset, but instead aim to mimic the performance of an index synthetically via a structured agreement or derivative over futures contracts. This structure is most commonly used by issuers creating commodity indices as it is not feasible to hold most physical commodities. Where investors are exposed to counterparty risk of more than 10% of the fund’s net asset value structured products must have the word ‘synthetic’ as part of their name for easy identification.

Flows: refers to investors moving their money into (inflow) or out (outflow) of the ETF

Franking credits: When companies have already paid corporate tax the amount of  tax the shareholder needs to pay on their dividends is reduced. Franking credits are particularly attractive for people on low tax brackets or in the draw down stages of superannuation.

FUM: Funds Under Management.

Hedging: Any strategy that looks to reduce the impact of a negative event by making an investment in the opposite direction. For example, life insurance is a form of hedging to reduce the impact of an event (unexpected death) on your family.

Hedged ETF: Specific strategies are used to offset the changes in currency’s value may have on an investment’s value

ICR: Indirect Costs Ratio.  This measure the total costs of managing an ETF including management costs, performance fees, accounting fees, legal fees, auditing fees, and other operational and compliance costs.

Inflation: This is the gradual increase in prices over time.

Index: A section of the stock market with a number of holdings based on their market capitalisation.

Index funds: These ETFs follow a general stockmarket index like the S&P/ASX200 and their holdings are based on market capitalisation. They can also follow indices that focus on certain sized companies or a specific sector.  

Leverage: Also known as gearing. This means borrowing to invest. When prices are rising (shares, houses or anything else), gearing helps to magnify the profits. When prices are falling leverage has the opposite effect, quickly wiping out the value of the investment.

LIC: Listed Investment Company. A managed fund which is actively managed in a closed ended structure and listed on a stock exchange. Unlike ETFs, LICs can trade at significant premium or discount to their net asset value.

Market Makers: brokers/dealers who seek to provide liquidity to the market by providing ongoing buy and sell prices (often called buy/sell spreads) throughout the trading day.

MER: Managed Expenses Ratio. The fees shown as a percentage that will be deducted from the total returns every year.

mFunds: This is an ASX-linked platform which enables investment in a range of range of unlisted managed funds via the ASX CHESS system. However there is no standard settlement timeframe across issuers and products. In addition there is no live pricing so investors must wait until after the close of trading each day to know the price of units that have been bought or sold.

NAV: Net Asset Value. The value of a fund’s asset less the value of its liabilities per unit.

Real Estate Investment Trusts (REITs) — these give investors exposure to portfolios of infrastructure or property assets. Similar to LICs, they can trade at a premium or discount to their Net Asset Value (NAV).

Risk: This just means something is unpredictable. When you invest in a share you need to accept the chance that it’s value may fall tomorrow. When taking on more unpredictability higher returns are expected.

Risk aversion: The human tendency to avoid risk wherever possible even where this sometimes leads to a worse result.

Rules-based: These are smart beta products, which follow rules-based indices that focus a certain factors other than traditional market capitalization weighting. These can be investment strategies like reducing volatility, paying high dividends or having equal exposure to each company. They can also track indices that exclude companies based on ethical concerns.

Sector: Specific sections of the market.

Sector ETFs: Track sectors within a market. (e.g. property, financials or resources)

Securities: A financial instrument with proof of ownership and can be traded.

Socially responsible investing: Also known as ethical investing. A style of investing that considers both financial return and social good to bring about social change.

Strategy ETFs: Only include some securities in the market. Securities are selected according to certain rule-based factors (e.g. dividend yield or research rating)

Synthetic Returns: Returns from financial instrument that is created artificially by combining features of different assets.

Synthetic Index: Constructing an artificial index that may combine features of different assets with the aim of higher returns.

Tracking Error: An ETF’s performance may differ from the performance of its underlying index. Tracking difference is mainly caused by the structure of the ETF and the management costs.

Unhedged ETF: The value of the asset will be affected by currency exchange rates moving up and down.

Volatility: The short term ‘ups’ and ‘downs’ in the market around a long-term upward trendline.

Yield: The annual return expressed as a percentage of the capital invested. For example, annual dividends of $40 on a $1,000 portfolio would represent a 4% dividend yield.

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Investment Associate

Marc has over 5 years experience in the financials services industry having previously worked for Morgan Stanley, AMP and KPMG. He holds a Bachelor of Business (Finance/Accounting) from the University of Technology Sydney (UTS), and has completed his Chartered Financial Analyst (CFA) Level 1.

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