As defined by investopedia, "An ETF, or exchange-traded fund, is a marketable security that tracks an index, a commodity, bonds, or a basket of assets like an index fund. Unlike mutual funds, an ETF trades like a common stock on a stock exchange. ETFs experience price changes throughout the day as they are bought and sold."
Well, common in India currently is the Nifty and the Nifty Bank ETFs. Considering our forte in picking stocks for a long term and with the principle of low churn. A lot of times we find ourselves confused between the bulls and the bears. Let me illustrate:
Remember the 1st January of 2018 when 30% annual return (past Year) was the normal and everyone was skeptical about the market. So, we decided to sell off all the small, mid or large cap stocks that had booked a return of more than 4x their 2017 year earnings growth and bought an equivalent amount of Nifty ETF.
In exactly 2 months later the Long Term Capital Gains were announced that brought with it an intense collapse in all these small and mid cap stock. Im sure if you've been into the markets for at least an year you know what I'm talking about.
The basket of stocks we sold is currently valued at barely 30% of the value since 1st Jan and well the Nifty was at life highs two weeks ago and so was our ETF investments.
While we would have lost 70% on average on those stocks since that day, we are instead sitting on stronger returns.
We strongly believe sectors and industries like Banking and Pharma suffer from risks of choice. While we could but the currently best company and eventual event could turn the tides. For a bank, a new regulation can trigger a collapse even in the best names. Example- Rana Kapoor's Tenure with Yes bank, Uday Kotak's holding in Kotak Mahindra or the floods in Kerala that have deeply impacted Federal Bank.
We have made it our strategy of investing a deeper portion on the Bank ETF along with the focused bank. That way incase the industry grows you get to take part in the growth and your company bet might grow along side.
Accelerated Interest Income
While this example or strategy can be debated and we've barely started using It. The backtests show amazing results.
Imagine, investing only the interest portion of your Fixed Income securities in these assets.While your principle grows at a 10% CAGR the interest portion grows at a the rate of the equity markets.
We have tweaked this for our longterm risk averse investors and started investing their dividend income in ETFs of emerging markets and Indian Sectors.
ETFs also have lower transaction costs as compared to direct equity. Since ETF's aren't exactly the instrument you can also invest much smaller amounts. You can buy the KotakNifty ETF at Rs.114.92 /unit (as on 19th Sept' 2018) instead of having to buy a lot of 75 units in the derivatives at 11,234/unit = Rs. 8.425 Lakhs.
Well, some investors could even use Mutual Funds inplace of ETFs. Given the selection errors, transaction and commission costs in Mutual Funds, we have little to no faith in them.
However, none of this implies a investment advice or recommendation. For more information feel free to get in touch, or request a post. You chose the topic, if its markets we have a response.
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