ETFs VS ETNs

Exchange Traded Funds VS Exchange Traded Notes

The difference between the two instruments that confuses many as they both track the performance of a group or basket of shares, Bonds or Commodities. So, exchange traded funds or ETF as widely known, is an listed investment instruments that track the performance of a basket of shares, bonds or commodities while exchange traded notes are debt instruments that track(only when they are sold or bought or at maturity) the performance of interest rate, commodity prices, basket shares, bonds or currency. 

Exchange Traded Funds

This involves the process of collection securities-such as stocks-that often tracks an underlying asset that they hold or index. Like stock, ETF is traded on exchange and its price fluctuate throughout the day. This is considered to be the most preferable and popular choice for diversification as there are multiple assets within the ETF. They provide investor with lower average costs since it would more expensive for investor to put his funds in the stocks held in ETF portfolio individually and create a portfolio by investing funds assets that have already been indexed e.g ETFSA spreading Mr Jones investment between All Share Top40. SA government bonds, Russell 2000 Small Cap Index, this means you invested in different local stock, local risk free instrument and different international stocks. Investors are not shareholders but rather ETF holders. Like stocks, ETF holders receive dividends from the companies that pay dividends and are entitled to the proportion of the companies’ profits. In case of liquidation, the investors may get residual value.

Important features

Exposure to a variety of underlying instruments

Can be traded quickly at a low cost

In SA, ETFs are regulated by JSE & FSCA

Pay dividends, profits or residual value in case of liquidation

Exempt from securities transfer tax

Price fluctuations

Exchange Traded Notes

This is the lending version of the ETFs, instead of investing your funds, investors lends money to the issuer of the ETN, usually a bank, and then receives a return based on the movements in a specific benchmark. Benchmarks can be based on interests rate, commodity price, basket of shares, bonds or currency hence it is just ETF with specific features of a debt instruments. It works like bonds, it can be held to maturity or sold or bought at will because imagine if the underwriter was to go bankrupt, then investor suffers a risk of complete default. ETNs only pay investors once the fund matures based upon the price of assets or index. There Is no pitfall of tracking error because the fund in fact isn’t actively tracking. As an economic theory, the market forces will cause the fund to track the underlying instrument.

Important Features

More cost-effective

Highly liquid

Daily market fluctuation exposure

Pays the amount on the assets or index at maturity or when sold or bought.

Most investors choose to put their funds in ETFs because they are easy to discern hence, they are exponentially bigger in collective volume than ETNs. ETNs require an extended length when conducting a research because of the degree of risks attached to them. Example. Disregarding the credit risks aligned with certain assets especially credit ratings will provide you with almost no insight into whether the as an investor I will be paid at maturity or not because investor needs to know about the probability of a default attached to a security. One should never undermine the efficiency of ETNs because they have favorable tax treatment for long-term investors. With ETFs, the fund may underperform the index due to expenses that may bring a certain degree of differential or divergence from the index they track. 

The advise is simple, as an investment phenomena put your money on what you understand.