Nuts and bolts of debt ETFs

Six debt ETFs, in­clud­ing liq­uid ETFs and G-Secs ETFs, are al­ready avail­able in the mar­ket

The Hindu Business Line - - YOUR MONEY - DHURAIVEL GU­NASEKARAN Debt ETFs

Fol­low­ing the suc­cess of eq­uity ex­change-traded funds (ETFs) such as CPSE ETF and Bharat-22 ETF, the Cen­tre is now gear­ing up to launch a debt CPSE ETF. Edel­weiss Mu­tual Fund re­cently won a man­date to man­age an ETF that will hold bonds of pub­lic sec­tor un­der­tak­ings.

The pas­sively man­aged debt CPSE ETF will suit con­ser­va­tive in­vestors and serve as an al­ter­na­tive to bank fixed de­posits. While the con­tours of the debt CPSE ETF are awaited, there are a few debt ETFs al­ready avail­able in the mar­ket, which can help re­tail in­vestors un­der­stand the un­der­ly­ing con­cept be­hind these in­vest­ments.

Cur­rently, six ETFs, in­clud­ing liq­uid and G-Secs ETFs, are ac­tively traded on the NSE and the BSE.

Liq­uid ETFs

ETFs are pas­sively man­aged mu­tual funds that aim to gen­er­ate a sim­i­lar re­turn as that of the bench­mark they fol­low. ETFs are traded on the BSE and NSE just like eq­uity shares.

Cur­rently, three liq­uid ETFs are avail­able in In­dia — Re­liance ETF Liq­uid BeES, DSPBR Liq­uid ETF and ICICI Pru Liq­uid ETF. Re­liance ETF Liq­uid BeES has been one of the top ac­tively traded ETFs, and has had a strong track record since July 2003, while other two have a his­tory of less than a year.

Liq­uid ETFs track the Col­lat­er­alised Bor­row­ing and Lend­ing Obli­ga­tion (CBLO) overnight rate and Tri-party repo rate (where a third en­tity called a tri­party agent acts as an in­ter­me­di­ary be­tween the two par­ties to the repo) as the bench­marks. They of­fer only one plan — daily div­i­dend — which is com­pul­so­rily rein­vested into the scheme after de­duct­ing the div­i­dend dis­tri­bu­tion tax (29.12 per cent).

Liq­uid ETFs are mainly suited for cap­i­tal-mar­ket in­vestors in­clud­ing traders who wish to park idle cash in a way that en­sures easy liq­uid­ity and bet­ter re­turns than a reg­u­lar ac­count. When an in­vestor sells eq­uity shares in the ex­change, she can si­mul­ta­ne­ously in­struct the bro­ker to pur­chase the units of a liq­uid ETF for an equal amount. This helps the in­vestor earn above-av­er­age re­turns till the pro­ceeds come into her trad­ing ac­count. Cur­rently, the set­tle­ment hap­pens in the cash mar­ket in (T+) two days.

In­vestors wait­ing for­buy­ing op­por­tu­ni­ties in the mar­ket can also park their idle money in liq­uid ETFs. Units of liq­uid ETFs can also be used as a cash-equiv­a­lent mar­gin for the de­riv­a­tives seg­ment with a 10 per cent hair­cut.

Liq­uid­ity has not been a con­straint in Re­liance ETF Liq­uid BeES, with a daily av­er­age vol­ume of ₹92 crore on the NSE in the last two years.

The in­dex used by Re­liance liq­uid ETFs is the CBLO overnight rate. Cur­rently, the weighted av­er­age rate of CBLO is 6.4 per cent, and it has hov­ered at 4.3-6.4 per cent in the past one year. Hence, the re­turns from these ETFs are closer to these rates.

One can­not com­pare the per­for­mance of liq­uid ETFs with that of liq­uid mu­tual funds, overnight funds or bank FDs as they op­er­ate for dif­fer­ent pur­poses, and hence have sep­a­rate man­dates.

Gilt ETFs

Three Gilt ETFs (or G-Sec ETFs) — Re­liance ETF Long Term Gilt, SBI ETF 10 Year Gilt and LIC MF G-Sec Long Term ETF — are avail­able in the mar­ket. SBI ETF 10 Year Gilt fol­lows Nifty 10 yr Bench­mark GSec In­dex, while Re­liance and LIC gilt ETFs fol­low Nifty 8-13 yr G-Sec In­dex.

Nifty 10 yr Bench­mark G-Sec In­dex is con­structed us­ing the price of the 10-year bond is­sued by the Cen­tre (cur­rently 7.17 per cent GS 2028). Nifty 8-13 yr G-Sec In­dex is com­prised of five most liq­uid G-Secs with a ma­tu­rity of 8-13 years.

Gilt ETFs are dif­fer­ent from nor­mal gilt mu­tual funds. Gilt ETFs are pas­sively man­aged funds that sim­ply track the port­fo­lio and per­for­mance of the bench­mark they fol­low. On the other hand, gilt funds are ac­tively man­aged du­ra­tion funds wherein the fund man­agers churn the port­fo­lio based on macroe­co­nomic out­look to gen­er­ate higher re­turns than bench­marks.

Gilt ETFs pro­vide re­tail in­vestors an easy ac­cess to par­tic­i­pate in the gov­ern­ment se­cu­ri­ties mar­kets. Though there are other routes avail­able for re­tail in­vestors, in­clud­ing through bro­kers, pri­mary deal­ers and the NSE plat­form, an exit op­tion is lim­ited in them. How­ever, the traded vol­ume in the ex­changes in these gilt ETFs are still very low.

Though there is no credit risk as­so­ci­ated with gilt ETFs, they carry price risk de­pend­ing upon the in­ter­est rates move­ment. When in­ter­est rates rise, prices of G-Secs fall, and vice versa. This, in turn, im­pacts the NAV/price of the gilt ETFs.

The per­for­mance of gilt ETFs de­pends on the macroe­co­nomic con­di­tions in the do­mes­tic and global mar­kets. Hence, gilt ETFs are suitable for well-in­formed in­vestors who un­der­stand the dy­nam­ics of the debt mar­ket very well. Traded vol­ume is very low in gilt ETFs

Charges are rel­a­tively higher in liq­uid ETFs

ETFs are pas­sively man­aged mu­tual funds aim­ing to gen­er­ate a re­turn sim­i­lar to the bench­mark

Track­ing er­ror may be high in some funds

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