How investors can benefit from exchange traded funds on bourse

Kenya is set to witness the listing of the first exchange traded funds (ETF) on the Nairobi Securities Exchange.

Exchange traded products are a type of security that is derivatively priced and traded on a securities exchange.

They are meant to provide investors with liquid and diversified exposure to an underlying investment, be it stocks, bonds, commodities and derivatives.

The success of the product, however, will largely depend on the consistent efforts to enhance understanding of its operations by investors and other relevant stakeholders.

As with every product in the market that an investor is considering investing in, the prerequisite is always availability of information in order to understand what it is, its risk-return characteristics, how such characteristics relate with those of other investment options and how it adds value to their savings and overall investment portfolios.

Therefore, there arises a need to have a dedicated outlet for promoting information about the ETF for the benefit of participating and potential investors.

Such a facility will ensure investors are more informationally empowered to make investment decisions in relation to ETFs and identify the opportunities that augur well with their investment and financial plans.

Like unit trusts, which are created by pooling resources from different investors and having professional Fund managers invest the money across different asset classes (shares, bonds, money markets), Exchange Traded Funds also have the benefit of lower costs.

ETFs are not actively managed and are also insulated from the costs of having to buy and sell securities to accommodate shareholder purchases and redemptions.

ETFs typically have lower marketing, distribution and accounting expenses, and most ETFs do not have fees. Also, while one may pay a commission to trade them, ETFs don’t charge high upfront sales costs that many conventional funds sold through adviser’s charge.

In addition, it saves the investor the trouble of picking individual stocks by themselves.

Price discovery is another benefit that accrues from listing and continuous trading of ETFs during the day. The price of the ETF varies from time to time in tandem with price changes of shares in the basket.

Transparency is another hallmark of exchange traded funds and with a commodity like the one set for introduction in Kenya, where the price of the underlying commodity may be determined in a different locality or jurisdiction; it is very easy for an investor in Kenya to convert the price in the currency of the primary jurisdiction into the local currency and determine its market efficient price.

In addition, stock-based ETFs generally pay prorated dividends, Bond-based ETFs pay any forthcoming income through distributions, while some may pay monthly dividends on shares of the ETFs the investor owns on a pro rata basis based on the income the underlying bonds pay to the fund. Not all assets in an ETF pay regular dividends.

Evidently, ETFs have features that make them attractive and give them a competitive edge over other passive investment products.

Yalla is a research and statistics officer at the Capital Markets Authority