Exchange Traded Funds : Meaning & Benefits

With government clearing Central Public Sector Enterprises -Exchange Traded Fund (CPSE-ETF or simply PSU-ETF), they will soon be traded in the bourses. Before discussing the merits and success-factors of PSU-ETF, it will be good to know what an Exchange Traded Fund(ETF) is.

Started in 2001, there are presently 33 ETFs, like other instruments ETF is an investment fund which tracks a certain index. They are traded on stock exchanges similar to shares. An ETF holds assets like stocks, bonds, etc of which it track prices.

ETFs are different from Mutual Funds (MFs) although they both have the feature of representing the value of investments backed, in their own prices. Firstly, ETFs are traded like stocks unlike MFs where one gets value as per the Net Asset Value (NAV) of the fund. So in MFs while one buys/sells Units, in case of ETF one actually buys/sells shares of the portfolio of the ETF which explains the changes in the price of ETF throughout the day in stock exchange. Secondly, the asset manager of MF try to generate returns for the unit holders by beating the index (say by investing in non-index shares), while ETF always goes in consonance to the prices of the stock of its portfolio, hence as said ETFs don't try to beat the market they try to be the market. Gold-ETFs dominate Indian ETFs.

Few benefits of ETFs over MFs which puts them in promising position in future are:

• They allow real time buying and selling of shares.
• Lower expense ratio, since ETFs need not to invest in liquid assets like MFs.(for redemption of units.)
• Tax Efficiency.

CPSE-ETF

This will comprise of shares of 11 blue chip PSU companies like ONGC, CIL, Power Grid, etc.

It’s worth noting that this is government's way of monetizing its assets. Facing protest in direct disinvestment of PSUs coupled with difficulty to achieve disinvestment target of Rs. 40,000 crore this fiscal due to cold market response, this is an alternative to direct share sale. CPSE-ETF is supposed to raise Rs. 3,000 crore to the govt. exchequer. However there are certain determinants which will decide the way CPSE-ETF will be received, major ones are:

• The discount at which they will be offered. Apparently in the past Indian market to ETFs has been quite moved solely by the rate of discount which is offered compared to other factors.
• Most importantly, the way insurers will receive this ETF will have a large hand in determining the success of it. However in my view, the scheme of CPSE-ETF, finds itself inconsistent with the present draft rules made by IRDA for the same. Say for example the maximum expense ratio prescribed by IRDA rules which will be flouted as per present scheme of expenses of CPSE-ETF, thereby setting the insurers aside.

Resolution of these inconsistencies will pave the way for better reception of the issue.