What is an Exchange Traded Fund?

• ETF is a super stock

• It is a mutual fund unit that trades like a stock
• It has best of both the worlds
– ETF is an open-ended mutual fund having
all the advantages of a mutual fund like
professional management, diversification
etc.
– It is stock which is listed and traded on a
stock exchange just like any other
security say a share of Reliance, Infosys
etc.

Salient Features of SPIcE

• SPIcE is an Exchange Traded Fund tracking SENSEX
• It will be listed and traded on the Cash Segment of BSE and
DSE
• Each SPIcE unit will trade at 1/100th of SENSEX value. E.g. if
SENSEX is at 3300, each SPIcE unit will trade at approx. Rs.
33
• An investor can buy and sell SPIcE units through his stock
broker and hold the units in his Demat account just like any
other security.

SPIcE v/s Index Fund

Attribute SPIcE Index
Fund
• Diversification Yes Yes
• Traded throughout the day Yes No
• Can be sold short Yes No
• Trade at any brokerage firm Yes No
• Real Time Price Yes No
 ETF - Global History
• 1st ETF - SPDRs was launched by SSgA (State
Street Global Advisors) in 1993 that tracks S&P-500
Index - Listed on AMEX
• ETFs launched in Hong Kong, Canada, France, UK,
Germany, South Africa, Sweden, Australia
Switzerland, Japan, Israel and Singapore in the last
couple of years.

• Currently there are 279 ETFs listed and traded

globally with around US$120 billion in assets
• 106 ETFs are listed in US, with assets over US$90
billion
• Nearly 60% of trading volumes on American Stock
Exchange is contributed by ETFs

Advantages of SPIcE
• Diversification: Instant exposure to a diversified
portfolio that replicates SENSEX
• Trading Flexibility: Bought/ sold at any time
during the trading day just like any other listed
share - a tremendous advantage over an Index
fund where entry & exit is allowed only at the end
of day’s NAV
• Pricing: Real-time market price of SPIcE available
which will closely track SENSEX value

• Low Cost and Low Tracking Error:

– Low Annual Management Fee because of
passive investment
– No loads - initial/ exit fees
– Only brokerage charges apply
• Strategic Product: Underlying being similar to
SENSEX futures and options, a lot of hedging and
arbitrage possible
• Convenience: All transactions in Demat form
ensures convenience and safety

The Stock Exchange, Mumbai

• The provider of the underlying Index (SENSEX), on
which SPIcE will be created
• To provide Listing to SPIcE
• To provide an Exchange platform for trading in the
secondary market
• To provide continuous index adjustment information
to ensure effective tracking

Who can use SPIcE ?

• Long term Investors – SPIcE provides all the
advantages of passive investment strategy.
• Short term Investors – Since SPIcE would be traded
intra-day on a real-time basis, short term exposure to
index is possible.
• Speculators – The can take a view on the market as a
whole and implement their strategy through SPIcE
• Arbitrageurs – SPIcE would facilitate arbitrage
between SPIcE units on the one hand and between
SENSEX Basket and SENSEX Futures on the other.
• Institutions, Mutual Funds, FIIs – SPIcE facilitates
asset allocation,cash equitisation and hedging,
• Pension Funds/Insurance Companies – SPIcE
provides passive investment at low cost

SENSEX
• Oldest and most widely followed benchmark of
Indian Capital Markets
• Historical Data available since 1978-79
• Composed of 30 stocks from 13 different sectors of
the Indian Economy
• Represents 43% of total market capitalization and
45% of total volume
• 7 Index Funds currently running on SENSEX with
assets under management of over Rs. 300 crores

SPIcE IPO Process

• IPO to remain open for 4 days from Monday to
Thursday
• Allotment of SPIcE units to be based on closing
SENSEX of Friday
• SPIcE units credited to investors’ Demat account
before trading begins
• Listing and trading at BSE and DSE

• Minimum application size of Rs. 25000 plus in

multiples of Rs. 5000
• Only cash accepted from investors during the IPO
stage
• 100% Allotment Guaranteed

Post-IPO Scenario
• Post-IPO, SPIcE will have two markets:
– Primary Market – where SPIcE can be created
and redeemed directly with the Fund
– Secondary Market – where SPIcE units can be
traded on a stock exchange

Post-IPO SPIcE Creation

• Post IPO, SPIcE can be created on a daily basis by
Authorized Participants (brokers, institutions, etc.)
• Creation will be in a minimum lot size of 25000
SPIcE units (approx. value of 25000*30 = 7.5 lacs)
• The Fund will publish and disseminate SENSEX
composition file along with the Cash Component
applicable for creation of 25000 SPIcE units
• Cash Component arises due to rounding- off of
shares of scrips in the SENSEX basket.

• Creation will be through:

— Surrendering SENSEX stocks as per the
previous day’s composition file disseminated
by AMC and depositing Cash Component
— Cut-off time for submitting application for
creation of SPIcE units with the Fund– 5.00
p.m. on each trading day

Post-IPO SPIcE Redemption

• Redeemable only in minimum lots of 25000 SPIcE
units
• The redeemer will have to tender to the AMC 25000
SPIcE units (or multiples thereof)
• The AMC will then deliver a portfolio of SENSEX
stocks along with the Cash Component to the
redeeming holder based on the previous day’s
composition file.

Advantages of ETFs over Futures

• MINIMUM INVESTMENT SIZE
• ETFs trade in much smaller investment sizes than futures
contracts making it possible for retail investors to participate
in index trading.
– Example: At SENSEX level of 3000, minimum
investment in an ETF would be Rs. 30 (1\100th of
SENSEX) while minimum investment in SENSEX futures
contract would be Rs. 1.5 lacs (3000*50)

• LONG-TERM VIEW
 • For longer-term investors, ETFs are better suited
than futures.
– For implementing longer-term strategies,
futures contracts must be rolled over (every 3
months or 1 month in case of illiquidity in far
month contracts) because of expiration, which
leads to higher trading costs and tracking
error.
• Investor is also subject to mispricing of calendar
spread

• OPERATIONAL EASE
• Investors prefer the relative operational ease of
trading stock as opposed to trading futures, which
require that the investor open a futures account
and ensure mark to market daily.

• ARBITRAGE
• ETFs provide better arbitrage opportunities as both
ETFs and underlying stocks trade in the same
market (Cash Segment).
• Arbitrage between index futures and basket stocks,
though possible, is cumbersome as it involves
trading in two different markets- Cash Segment and
Derivatives Segment.
• This linkage becomes critical in extreme market
conditions.

During the US market crash of 1987, institutions were

unable to arbitrage the difference between the cash and
futures market (when the markets were in free fall)
because the cash market was trading, but the futures
market ceased trading at times. The system was built
upon arbitrage between the two markets, and when one
broke down, the whole system unraveled. ETFs are
different because arbitrage takes place in the same
market.

Advantages of ETF over Traditional Mutual

Funds
• Flexibility
• Investors can trade ETFs intra-day, monitor price discovery
throughout the trading day and employ the usual arsenal of
order types such as limit and stop orders- available in stock
trading in the cash segment of BSE.
• In a mutual fund, by comparison, investors can purchase
traditional mutual funds only at the fund’s NAV which is
published at the end of each trading day.

• Market Impact Cost

– Typically, orders to buy/sell mutual fund
shares must be placed a few hours prior to
market close. On the other hand, ETFs are
immediately tradable- thereby minimizing the
risk of price movement between investment
decision and time of trade.
– Example: Suppose an investor decides to
purchase index exposure at 10.00 A.M. via a
traditional mutual fund and during the balance
of the trading day, suppose the index gains
1%. The investor will miss the opportunity as
he will be able to purchase the fund only at the
day’s closing NAV.
• Tracking Error
• Unlike Traditional Mutual Fund, an ETF is insulated
from the daily activities of most investors. Hence,
less cash-on-hand is required, preventing “cash
drag” on returns and thereby minimizing tracking
error.