ETFs offer real-time trade execution: a real plus in today's volatile markets

Money Digest, Sept, 2002 by Howard Atkinson

As human beings we have had to adapt to an accelerated pace of life in recent years. For example, we have progressed through hand delivery, postal service, and facsimile stages for primary correspondence of the written word. While all these methods are acceptable and still exist, they have been replaced by e-mail. Now with a few keystrokes we can instantly communicate directly with others. How did we live without it? It is all about speed and efficiency. Anything less costs you time and/or money (which some would say is the same thing). We should demand the same real time experience from our investments. And now we can!

Exchange Traded Funds (ETFs) offer you real time pricing whenever markets, where they are listed, are open for trading. Stocks, of course, have been trading on exchanges for years. Unfortunately, you would need to hold many names to achieve some level of acceptable diversification. This would be costly to transact and take plenty of time to monitor.

Closed-end funds, which unlike ETFs have existed for decades, provide some diversification, but not necessarily a fair price (closed-end funds often trade at a significant premium or discount to their net asset value). ETFs give you the best of both worlds; a diversified basket of stocks (and now bonds; see August Money Digest), priced in real time and at a fair value.

It should be noted that ETFs can and do trade at prices other than their net asset value. However, discrepancies are typically minute because an ETF's transparent holdings allow arbitrage to keep the two prices in line.

So you can see how the acronym ETF could also stand for: Exact price, Trade anytime and Fair value. These attributes offer tremendous advantages in today's volatile markets.

If you haven't noticed, the market lately has been experiencing more mood swings than a teenager. Net changes on the day of 3%, 4% or even 5% are commonplace for the major averages. Intraday swings, such as the 800-point reversal on the DJIA recently, have been even more volatile. As an investor, placing a mutual fund order during the day and obtaining end-of-day pricing just doesn't cut it anymore. The market could move two or three times the already expensive MER against you! With an ETF buy or sell order, you dictate the price of the transaction. Sophisticated investors can even use limit and stop orders to pinpoint entry or exit prices (these types of orders are triggered only if a predetermined price is reached and are typically left open on the books for up to 30 days).

Unless you are the type of individual who is willing to settle for the old excuse, "It's in the mail," stop accepting end-of-day pricing. Bring your investments into the modern real-time world and utilize ETFs for the diversified portions of your portfolio. The price certainty will bring you peace of mind and quite possibly add to your bottom line. Throw in low MERs and tax efficiency, and you won't miss the old ways of achieving diversification.

Howard Atkinson, CFA, CIMA, is author (with D. Green) of The New Investment Frontier: A Guide to Exchange Traded Funds for Canadians. He is also the National iUnits Marketing Manager at Barclays Global Investors Canada, Ltd. Phone 416-594-4404.