- ETFs and trackers are types of passive investment.
- They work by replicating a stock index’s performance.
- ETFs and trackers allow investors to invest in a stock index without buying shares in all the companies falling under the index.
If you are already a player or a new player aspiring to enter the arena of trading and investing, you should deepen your knowledge of different aspects of this arena. ETFs and trackers are among the most important aspects that you must learn about. ETF investment is attracting a lot of attention and rightly so because of various reasons. But first things first.
What are trackers?
Trackers track the performance of stock market indexes or all the assets such as shares, currencies, commodities, or bonds included in indexes. In other words, trackers are a kind of collective investment technique that follows an index’s movements. So, the value of trackers rises when the value of an index rises. Conversely, the value of trackers decreases when the value of an index decreases.
Trackers can be ETFs that are listed on stock exchanges just like shares and you can trade them in real-time. Or, trackers can open-ended funds are known as Open Ended Investment Companies (OEIC) and Unit Trusts. When you invest in OEIC funds, new shares are created by the fund manager and Units in Unit Trusts.
Trackers allow you to quickly and effectively diversify your portfolio as you can spread investments over different assets as well as countries. That means trackers allow you to track and take advantage of the performance on an index without buying and managing individual stocks in the index. For example, if you invest in FTSE 100 tracker, you actually invest in all 100 member companies without individually buying shares from all 100 companies.
What are ETFs?
Exchange-Traded Funds (ETFs) are a type of trackers and are funds that typically try to replicate the performance of assets traded on the stock market. Those assets include shares, currencies, commodities, or bonds. ETFs also mirror the performance of the stock market index as an index’s underlying value represents the value of assets included in the index.
ETFs are more transparent than other tacker funds as they are listed and traded on stock markets. They are more flexible as well. Moreover, ETFs are of types – physical and synthetic. A physical ETF fund actually invests in the actual index or pool of assets in that index. Contrarily, synthetic ETFs don’t actually invest in indexes. They enter an agreement with a third party such as a bank to exchange an index’s performance with the return of the stock market.
Tracker as good options to diversify your portfolio
There are two types of investment schemes, active and passive. Active investment strategy revolves around the efforts to outperform the market index by trading actively using deep analysis and research. A passive investment scheme tries to replicate the index’s performance rather than outperforming it. Active investment has higher associated costs as compared to passive investment as you don’t need extensive analysis and research. That is the reason the trackers are a good option to diversify your portfolio.
How an ETF or a tracker are made?
A provider makes an ETF or a tracker and makes them follow a particular index. When the provider buys all the shares that fall in a particular index, it offers full replication. In partial replication, a provider may invest in a sample of indexes that strongly represents the whole. There are lots of ETF and tracker providers and you can invest in ETFs or trackers using the platforms of those providers. However, it is important to gather as much information as possible before investing.
Tips to choose a tracker
Choosing a tracker for investment isn’t as easy as it seems. There are several factors that you have to consider before making your final decision. The following are some tips that can help you make a better tracker investment decision.
1. Be clear about what you need to track
You can track different assets and there are various possibilities. Therefore, before making an investment, you should have a solid strategy in place and align your decision to your strategy. Think carefully whether you want to track equities, commodities, currencies, etc., or any other option available in the market.
2. Check all the details of a tracker
Buying a tracker blindly is nothing less than a worse decision. You should not rely on the name of the tracker and should analyze all its details. You can observe whether the tracker buys the underlying assets or track them using derivatives? Key Investor Information Document (KID) provides you all the relevant information. You can also find information on the provider’s website.
3. Consider costs
Different providers offer different prices. Costs have a significant impact on your overall gain over the long term. Therefore, compare costs between different providers and choose one that offers the most affordable price.
4. Consider tracking errors
Tracking errors is another key aspect you need to consider before choosing a provider. You can consult KID or the provider’s website. Do your homework and comparative analysis before heading forward.
ETFs and trackers are types of passive investment. They work by replicating a stock index’s performance. ETFs are listed on the stock market and are traded throughout the day. On the other hand, other trackers aren’t listed on the stock market and are open-ended funds. ETFs and trackers allow investors to invest in a stock index without buying shares in all the companies falling under the index.
Trackers have become popular within no time because they are easy to understand as well as easy to use. The costs associated with trackers are also significantly low than costs associated with the active investment method. However, it is also important to carefully choose a tracker for investment because small aspects mean a lot for your overall performance and gain over the long term.