Last Updated on April 2, 2021 at 9:31 am
A comparison of Nippon India ETF Nifty BeES with UTI Nifty Index Fund to understand the true cost of investing in an ETF.
First, if you wish to understand the basics of ETFs, you can start here: How ETFs are different from Mutual Funds: A Beginner’s Guide and here: List of Index Mutual Funds and ETFs in India: What to choose and what to avoid and here(!) Watch my talk on index investing: Can we get higher returns with lower risk?
Since the ETF trades at the exchange, the price of each unit need not equal its NAV and is decided by supply and demand. A large and consistent discrepancy between the price and NAV is unhealthy and indicates that it is hard to trade those ETF units. Large AUM ETFs typically (not always_ involve heavy daily trading volumes and tend to exhibit a low difference between price and NAV, suggesting that it is quite liquid.
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However, this does not mean, that low AUM ETFs are always ill-liquid. See: Here is how you can select ETFs by checking how easy it is to buy/sell them. An active authorised participant is necessary to arbitrage out the price-nav fluctuations. See: Why SBI ETF Nifty 50 Price changed only by 0.2% when Nifty fell 7.6%
Tracking error (higher the value, the more the deviation from the index) for index funds and ETFs is not readily available for different durations for Indian passive investors. So they assume an index fund with a higher tracking expense ratio would always have a higher tracking error. That is a myth as can be seen from this report: Selecting index funds: Lowest expenses does not mean lowest tracking error!
It is reasonable to assume that Nippon India ETF Nifty BeES with an expense ratio of 0.05% and AUM of 3214 Crores (April 2020) to be among the most liquid of Nifty ETFs. This means that anytime you wish to buy/sell Nifty ETF units, you can get a price close to the NAV.
Again since ETF price data is not readily available (AMFI provides only NAV history) – one can download this from Moneycontrol – many investors find it difficult to analyse price-nav deviations.
All ETF metrics, standard deviation, tracking error etc are calculated using the NAV and not the price data. An ETF investor buys and sells at price, not NAV. So the tracking error has to be computed with respect to the price.
Take for example the window from 1st May 2019 to April 30th 2020. The tracking error of Nippon India ETF Nifty BeES using its NAV was 0.16%. This is lower than 0.19% for UTI Nifty Index fund (0.1% expense ratio).
Amusingly, IDBI Nifty Index Fund with an expense ratio of 0.3% has a tracking of 0.18% (so a fund manager of an expensive index fund could still compete!). We will not go any further into this, but those interested can explore the free datasheet here: Selecting index funds: Lowest expenses does not mean lowest tracking error!
Now back to Nippon India ETF Nifty BeES. If we use the ETF price and compute the tracking error for the above period, it is 5.6% – this 34 times higher deviation from the index arises entirely because the ETF unit holder cannot buy directly from the AMC at NAV and must trade with other unitholders at current market price.
The price fluctuation completely wipes out the expense ratio benefit (the ETF is priced half the UTI index fund!) and then some! When you are doing SIPs (manually or via the demat provider in ETF) for small amounts like a few thousands it may not seem like much.
After a few years, when you have accumulated a few lakhs and want to them some of it, you may have to do so at a severe loss if the price you get is always lower than the NAV. You can limit this sale with a limit order but it may take days or even weeks to trigger! You cannot always assume this is “okay”
If you are buying and selling 5,000 ETF units (or multiples thereof), you can transact directly with the AMC (like a normal mutual fund). All lower sizes will have to be purchased and sold in the secondary market to fellow unitholders.
The AMC will buy less than 5000 units directly only if:
- if the traded price of the ETF Units is at a discount of more than 3% to the NAV for continuous 30 days; or
- if a discount of the bid price to applicable NAV is more than 3% over a period of 7 consecutive trading days; or
- if no quotes are available on exchange for 3 consecutive trading days; or
- when the total bid size on the exchange is less than half of Creation Unit size daily, averaged over a period of 7 consecutive
trading days. Source: Scheme document.
Nippon India ETF Nifty BeES vs UTI Nifty Index Fund: Tracking Error Comparison
The tracking error is calculated with monthly returns rolled over daily.
| Scheme Name/Tracking error period | IDBI Nifty Index Fund-Direct Plan | UTI Nifty Index Fund-Direct Plan | Nippon India ETF Nifty BeES (wrt NAV) | Nippon India ETF Nifty BeES (wrt Price |
| 2020-Apr-01 To 2020-Apr-30 | 0.31 | 0.32 | 0.09 | 10.74 |
| 2020-Feb-01 To 2020-Apr-30 | 0.05 | 0.11 | 0.32 | 12.45 |
| 2019-Nov-01 To 2020-Apr-30 | 0.22 | 0.24 | 0.23 | 7.26 |
| 2019-Aug-01 To 2020-Apr-30 | 0.16 | 0.17 | 0.19 | 6.26 |
| 2019-May-01 To 2020-Apr-30 | 0.19 | 0.20 | 0.16 | 5.58 |
| 2018-May-01 To 2020-Apr-30 | 0.12 | 0.12 | 0.12 | 4.33 |
| 2017-May-01 To 2020-Apr-30 | 0.11 | 0.11 | 0.11 | 3.77 |
| 2016-May-01 To 2020-Apr-30 | 0.11 | 0.11 | 0.10 | 3.64 |
| 2015-May-01 To 2020-Apr-30 | 0.10 | 0.10 | 0.09 | 4.16 |
What should investors do?
- Avoid ETFs for investment (trading, if you know what you are doing, is “okay”)
- Choose a reasonably low-cost index fund with a reasonably low tracking error. Searching for the best index fund and hoping to stay invested in only the best is a futile exercise.
- UTI Nifty Index Fund may or may not be the “best choice” among index funds, it is certainly a better choice than Nippon India ETF Nifty BeES.
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