About Exchange Traded Funds (ETFs)

Exchange-traded funds (ETFs) are investment funds that can be bought and sold in the same way you buy and sell shares on a securities exchange, such as the Australian Securities Exchange (ASX).

When an investor purchases an ETF they receive units in the ETF, gaining exposure to the underlying assets that the ETF invests into, rather than owning the underlying investments outright.

ETFs are typically categorised as being passive or actively managed.

Active ETFs are actively managed by an investment manager and aim to outperform a benchmark or achieve specific investment objectives through active investment decisions.

Active ETFs offer a convenient way to leverage the expertise of professional investment managers while benefiting from the accessibility of trading ETFs on a securities exchange.

A Passive ETF typically aims to track a benchmark or index, such as the S&P/ASX 100, and will fluctuate in accordance with the index it is tracking. Generally, Passive ETFs do not aim to outperform a benchmark or index.

In contrast, an Active ETF aims to outperform a benchmark or achieve specific investment objectives through active investment management, where the investment manager selects the underlying investments.

Active ETFs operate a similar way to managed funds, as both are actively managed by an investment manager and share the same investment objectives. Additionally, both are subject to fluctuations in the value of the securities held within the fund.

The key differences between Active ETFs and unquoted managed funds lies in their accessibility and minimum investment requirements.

Active ETFs can be bought and sold on a securities exchange similar to shares, and they do not have a minimum investment amount. Active ETFs are priced throughout the trading day, allowing investors to trade at real time pricing. Consequently, Active ETFs provide greater liquidity, as they can be transacted during the trading day.

In contrast, unquoted managed funds are executed at the Net Asset Value (NAV) per unit at the conclusion of the trading day, often require a minimum investment amount, and typically an application form needs to be completed.  As a result, unquoted managed funds tend to be less liquid compared to ETFs, as transactions are processed once a day.

A dual access fund is an investment vehicle that offers investors the flexibility to access the same underlying investments in two different means: buying and selling units in the fund on a securities exchange (ETF) and directly through the responsible entity (managed fund).

A dual access fund provides access via the same unit class to the underlying investment strategy through both listed (ETF) and unlisted (managed fund) channels.

The ‘Complex’ and ‘Active’ labels are part of a naming system proposed by the Australian Securities and Investments Commission (ASIC) aimed at reducing confusion and assisting investors in understanding the different types of ETFs.

The ‘Complex’ label categorises products that utilise investment strategies which may be more difficult to understand, according to ASIC’s exchange-traded products guidelines. This label is applied to ETFs that employ one or all of these characteristics:

• Debt or leverage to make a financial instrument.
• Short selling.
• Material or substantial use (typically at least 10% of NAV) of derivatives, other than disclosing hedging of exchange rate or interest rate risks, to:
  • gain non-temporary material economic exposure to implement the underlying investment strategy, or
  • create a net leveraged or net inverse position for the portfolio.
• Criteria that align with hedge funds as outlined in in Regulatory Guide 240 'Hedge funds: Improving disclosure'.

Complex ETFs are subject to the same regulatory oversight as other ETFs. These ETFs may also be designed to achieve specific investment, such as enhanced income or exposure.

The ‘Active’ label signifies the ETF’s investment strategies involve active management, with an investment manager actively selecting the underlying investments.

In summary, the ‘Complex’ and ‘Active’ label encourage investors to evaluate their understanding of the ETF, its use of sophisticated investment strategies, and whether it aligns with their investment objectives and risk tolerance, ultimately promoting informed decision making.

Where a product qualifies for both ‘Active’ and ‘Complex’ labels, only the ‘Complex’ label will apply.

Market makers provide liquidity to investors on the securities exchange by acting as both buyers and sellers of units on the securities exchange. They play a crucial role in ensuring that there is a continuous flow of buy and sell orders, which helps to maintain efficient and orderly markets.

Authorised participants are trading participants of a securities exchange, permitted pursuant to an Authorised Participant Agreement in accordance with the securities exchange rules to buy and sell units in an ETF during the trading day. Typically, authorised participants manage their trades on the securities exchange by creating or withdrawing units directly with the responsible entity. In other words, if they purchase units on the securities exchange during the trading day, authorised participants will withdraw units from the responsible entity directly. This process helps to adjust the number of units outstanding and contributes to maintaining the trading price of an ETF in alignment with the NAV per unit.

Market makers use daily portfolio information to determine the prices at which they buy and sell units on the securities exchange. Some Active ETFs do not wish to disclose their full portfolio information on a daily basis in order to protect their intellectual property inherent in their investment strategy and may adopt a material portfolio information (MPI) disclosure model.

The MPI disclosure model typically discloses a selected portion of the portfolio holdings on each trading day in the form of a proxy basket or subset of securities with only characteristic information for the remaining securities in the portfolio being disclosed.

The indicative Net Asset Value (iNAV) is an estimate of the NAV per unit throughout the trading day. Active ETFs that utilise the MPI disclosure model are required to issue an iNAV at least every 15 seconds.

The iNAV will be calculated by an iNAV provider and is an estimate of the NAV per unit based on real time price movements in the assets of the portfolio. The iNAV will usually be published on the investment manager’s website. This calculation is based on a portfolio of assets that is indicative of the portfolio as at the opening of trading on the securities exchange based on quotes and last sale prices, less any liabilities of the relevant fund.

The iNAV is a valuable tool for investors, providing an indication of the current value of a unit in the ETF. However, it is important to note that the iNAV is an estimate only and should be viewed as an indication of the current value of a unit in the ETF, rather than a definitive statement of the ETF’s value. No assurance can be given that the iNAV will be up-to-date or accurate.

The Net Asset Value (NAV) of a fund is calculated by deducting the total value of the liabilities of the fund from the total market value of the assets of the fund. The NAV is calculated at the end of each business day for the preceding business day. The NAV per unit is calculated by dividing the NAV by the total number of units on issue in the fund. The NAV per unit published on a particular business day reflects the value of the unit at the close of trading on the previous business day.

The indicative NAV (iNAV) represents an estimate of the NAV per unit. The iNAV provides investors with real time indication of the value of a unit in the ETF during the trading day, as opposed to the end of the day NAV per unit.

Units in an Active ETF are bought and sold on a securities exchange throughout the trading day.

As units are bought and sold, the buy or sell price on the securities exchange may differ from the NAV per unit of the fund, which is calculated at the end of each trading day, and the iNAV which is an independent calculation of the NAV per unit based on real time price movements in the assets of the portfolio during each trading day.

Market makers are typically appointed to provide buy and sell prices to investors on the securities exchange each trading day. They generally apply a spread between the price at which they purchase units on the securities exchange (bid spread) and the price at which they sell units on the securities exchange (ask spread), known as the ‘bid/ask spread’. This spread accounts for the fund’s buy/sell spread incurred by market makers when applying for and withdrawing units directly with the responsible entity, as well as the market risk they assume.

The buy and sell price on the securities exchange may also differ to the iNAV as the iNAV is an estimate of the NAV per unit based on real time price movements in the assets of the portfolio during each trading day, whereas the buy and sell prices are provided by the market makers who apply a bid/ask spread.

ETFs are subject to bid/ask spreads on the securities exchange.

The bid/ask spread represents the difference between the price at which investors are willing to purchase units (bid spread) and the price at which investors are willing to sell units (ask  spread).

The cost of the bid/ask spread may be different to the cost of the buy/sell spread for investors who apply for or withdraw units directly with the responsible entity.

It is important to note that bid/ask spreads may widen during periods of market volatility.