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Key Message:

  • As a hybrid of a stock and a fund, an ETF has six key features.

Exchange trading - An ETF is structured as a mutual fund or a unit trust but its units, like a stock, are also tradable on the Stock Exchange of Hong Kong (SEHK).

Index tracking - To achieve the index tracking objective, a fund manager may adopt one or more of the following strategies:

  • full replication by investing in a portfolio of securities that replicates the composition of the underlying index;
  • representative sampling by investing in a portfolio of securities featuring a high correlation with the underlying index, but is not exactly the same as those in the index; or
  • synthetic replication through the use of financial derivative instruments to replicate the index performance.

Synthetic replication is sometimes used by an ETF to raise efficiency and reduce cost. Where an ETF tracks a market (or an index in a market) that has restricted access, it has no other choice but to adopt synthetic replication through the use of financial derivative instruments.

Price index and total return index - Many ETFs track spot market indices, which measure the performance of securities traded on spot markets. Typically, a spot market index tracked by an ETF is either a price index or a total return index.

  • A price index only measures changes in the prices of the index's constituent securities.
  • A total return index takes into account both changes in the prices of the index's constituent securities and actual dividend/interest payments. The dividends/interest payments of the index’s constituent securities are assumed to be re-invested into the index portfolio according to their respective weightings.

For details about the different types of futures indices tracked by an ETF, you may refer to Futures-based ETF.

Trading price vs. Net Asset Value (NAV) - Each ETF has an NAV that is calculated with reference to the market value of the investments held by it. However, the trading price of an ETF on the SEHK, like that of a stock, is also determined by the supply and demand of the market. The trading price of an ETF may not therefore be equal to its NAV, and this disparity may give rise to arbitraging opportunities.

Dividend entitlement - An ETF may or may not distribute dividends, depending on its dividend policy.

Fees and charges - An ETF incurs certain fees and expenses such as management fees charged by the ETF manager and other administrative costs. These fees and expenses will be deducted from the ETF's assets and the NAV will be reduced accordingly. Like stocks, trading ETFs on the SEHK incurs transaction costs such as stamp duty, transaction levy and brokerage commission.

Regulated fund - Like other authorized funds, an ETF has to comply with the relevant regulatory requirements imposed by the SFC. However, you should note that SFC authorization does not imply recommendation of the product.