An ETF Is NOT The Same As An ETN

By: Pete
Date posted: 10.21.2012 (4:00 am) | Write a Comment  (0 Comments)

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There continues to be a lot of confusion regarding exchange traded products. I personally blame regulators who should force issuers to clearly explain their products and the differences. Take the case of ETN’s for example. When you hear about them, you’re likely to hear about exchange traded products rather than exchange traded notes and I would imagine that a big reason why is the fact that investors tend to confuse those with ETF’s.

It’s Not That One Is Superior To The Other

Both ETF’s and ETN’s have their own benefits and downsides and I don’t think there’s anything wrong with trading both. One key though is understanding the difference between the two products. In just a few words, here is how I would describe the two:

ETF: you own specific assets that attempt to track what is generally an index and in theory you could exchange those ETF units against an equal value of the underlying assets which are held by a custodian

ETN: you own a debt security issues by a specific bank. The bank promises to deliver the return of a specific return. The main benefit is that you get the exact return without any tracking error while the downside is that you own debt. You become liable if ever that bank goes into bankruptcy as was the case with Lehman Brothers some time ago. The risk remains small if you choose and diversify the counterparties that you’ll end up dealing with.

I personally do not own any ETN’s in my portfolio but it could happen at some point. I don’t really see how at this point since all of the asset classes that I’m looking for exposure on are offered as ETFs with minimal annual fees. It could happen though at some point that I’d look to get exposure to commodities or other sectors covered by ETN’s. If that does end up happening, I doubt that I would ever have more than 10% of my assets in ETN’s from one specific issuer, perhaps even less.

Have you ever purchased an ETN? If so, which one and do you care if it’s an ETN or ETF?


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