ETF & Index Fund Investing

An Exchange Traded Fund (ETF) is a pooled investment vehicle with shares that can be bought and sold throughout the day on the stock exchange, in the same way that ordinary stocks and shares are traded.

Exchange Traded Commodities (ETCs) are listed debt instruments traded on a stock exchange and backed by a commodity. They are not funds or ETFs.

An index fund is a type of passive investment that aims to match the performance of a market index, such as the S&P 500 or the MSCI USA. These funds typically offer low fees and may require a minimum or regular investment amount. Unlike ETFs, index funds are not traded on exchange. They are priced once a day after the market closes, and most investment platforms don’t charge dealing fees when investors buy or sell them.

ETFs and mutual funds both offer diversified exposure to main asset classes and are typically UCITS funds. However, ETFs can be bought through a stockbroker or trading platform at any time during the trading day, while mutual funds are purchased via a fund management company and only once per day. ETFs are priced continuously throughout the day, providing high transparency, whereas mutual funds are priced once daily and their transparency can vary.

Benefits:

Low cost of ownership: Both vehicles are typically lower cost than many active funds.

Index tracking: Both vehicles can use physical or swap-based (synthetic) replication, which may offer economic and tracking advantages depending on the index.

Transparency: ETFs are very transparent and usually disclose their full list of holdings daily on the ETF provider’s website. Index funds disclose holdings once a day after the market closes but still provide clear reporting.

Ease of trading: ETFs can be traded on a stock exchange at any time, when open. May be an attractive feature for investors who are looking for more flexibility around when to buy and sell an investment. Index funds are priced once per day, often with no dealing fees on many platforms and suitable for regular contributions.

Liquidity: ETFs are supported by the creation/redemption mechanism and market makers to help provide secondary-market liquidity. Index funds offer daily dealing at NAV via the fund platform (no intra-day trading).

Risks:

Tracking differences: ETFs and index funds may not track an index perfectly. The difference between the fund return and index return is called ‘tracking difference’.

Capital risk: Like any investment product, the value of an ETF or index fund may go down as well as up, and you may not get back the amount invested.

ETFs: Buy and sell through a stockbroker or online trading platform, just like ordinary stocks and shares.

Index funds: Invest via your investment platform or directly with the fund provider. Orders are placed at the next available NAV (priced once per day).

Large or complex ETF trades? Our Capital Markets team serves as the central point of contact for both primary and secondary market activity for our European-domiciled ETFs and ETCs. They can help guide you to find the most suitable and cost-effective way to buy or switch into one of our ETFs or ETCs, based on your individual preferences. They can also provide you with a pre-trade cost analysis, free and without obligation

While buying and selling our ETFs is usually quite straightforward, you may wish to speak to us first especially if you have a particularly large or complex trade.

There are many ways for fund managers to track the performance of an index. These ‘replication methods’ fall into two broad categories, physical and  swap-based (synthetic).

Physical replication: The fund owns the underlying stocks or bonds that comprise the benchmark index.

Swap-based  replication: The fund aims to deliver the index performance through a swap provided by an investment bank. A swap is a type of derivative contract where two parties agree to exchange (“swap”) one stream of flows for another.  

At Invesco, we pioneered a swap-based method called “physical with swap overlay” whereby the fund holds a basket of quality securities, which are not the same as those in the index but are expected to produce most of the returns. To reduce tracking error, the fund has swaps often with multiple counterparties (investment banks) that pay the difference between the index return and the return of the basket of securities.

Learn more about physical and swap-based funds