ETFs better than actively managed funds?

Mumbai: Exchange-traded funds (ETF) performed better than the large cap equity funds in the last one year. According to data by online investment advisory firm, Valueresearchonline.com, as on January 23, 2018, ETFs clocked negative returns of -1.61% whereas large cap equity funds gave negative returns of -4.23%. The index, Nifty 50, returned around -2.28%.

“The negative returns are due to global uncertainties, the Us-china trade war has affected our domestic market. Apart from global reasons, domestically the Central government’s weak situation in Uttar Pradesh and election uncertainties has also contributed to the market situation,” said Melvin Joseph, founder of Mumbai-based Finvin Financial Planners.

“The discrepancy between index returns and ETF returns is because of high tracking errors and these errors happen due to many reasons, namely: differences in weight of the assets between the portfolio and benchmark, varying kinds of fees that affect the portfolio and not the benchmark, volatility in the index among others,” said Deepali Sen, founder at Srujan Financial Advisers LLP.

While the constituents of large cap funds are actively managed by fund managers, constituents of an ETF are passively managed: they are automatically chosen to match an index. On the other hand gold ETFs, a commodity ETF, returned an average of 6.43%, according to the same data. Gold, the commodity, returned approximately 6.5% in the last one year, said Lakshmi Iyer, chief investment officer-debt, Kotak Mahindra Asset Management Company Ltd.

“ETFs mirror the performance of the underlying assets and these underlying assets could be any asset class. The most popular ETFs in India are equity and gold ETFs,” said Iyer. Since they are traded in exchange, they mirror real-time prices, she said.

Also read: Do Indian investors see value in index funds yet?

“ETFs invest in a basket of securities representing an index, security or commodity and are traded on the stock exchange like any security listed on the exchange,” said Gautam Kalia, head of investment products at Sharekhan.com, online trading broker. “ETFs are similar to index mutual funds but require a trading and demat account as they can be easily bought and sold anytime during market hours like any other security on the stock exchange,” said Kalia. “Also, as they are listed on the exchange, distribution, cost and other operational expenses are significantly lower, making it cheaper than index mutual funds.”

Ajit Narasimhan, chief marketing officer of Sundaram AMC, said the expense ratios of ETFs vary anywhere between 3 to 10 basis points, with large cap funds mostly being between five to seven basis points. “But it is difficult to categorise ETF expense ratios according to the market capitalisations because it depends on the AMC, how they want to price it and how much they make from the new fund offer (NFO),” he said. “ETFs are mainly for those investors who do not know much about managing funds, who do not want to take the risk of under-performing or over-performing the index and are looking for marketdriven investments,” said Iyer. Cost becomes a consideration for choosing between investment options when the expected returns potential is low, Kalia said.

“In the Indian context, since expected returns from active management strategies are still high, ETFs will continue to be a secondary option, especially for retail investors,” he added.