What is an ETF?
The Indian financial market offers investors and traders a wide range of assets, securities and funds. Among these options are exchange-traded funds or ETFs. If you’re not sure what an ETF is and how it works, this ETF guide can help you gain some clarity about these unique investment instruments.
What is an ETF?
An ETF is a kind of mutual fund that pools together capital from different investors and invests the collective funds in a basket of assets. These marketable securities track a stock market index, a commodity or a basket of other assets (like an index fund).
Unlike regular mutual funds, exchange-traded funds are traded on a stock exchange like the NSE and the BSE, just like stocks of listed companies. They are also passively managed because they track benchmark indices or other assets. This means the fund manager does not need to actively make decisions about which assets to invest in, how much to invest in each asset and when to exit current positions. They only need to make minor adjustments to the portfolio in accordance with the index that the ETF tracks.
ETFs vs. Stocks vs. Mutual Funds
Now that you know what an ETF is, you’ll agree that it combines the features of both stocks and mutual funds. Nevertheless, there are many key points of difference between these three investment options, as you’ll see below:
| Particulars | ETFs | Stocks | Mutual Funds |
|---|---|---|---|
| Meaning | Marketable baskets of securities that track an underlying index, asset, or sector | Securities that indicate ownership in a company | Pooled investments that invest the collective funds in different asset classes |
| Management style | Passive | NA | Generally active |
| Tradability | Traded on stock exchanges | Traded on stock exchanges | Not traded on stock exchanges |
| Risks | Reduced risks due to diversification | Higher risks | Reduced risks due to diversification |
| Investor’s control over investment | More control than mutual funds, but less control than stocks | High degree of control over the investment | Very little control over the investment |
ETF Categories
The next thing we’re going to look at are the different categories or types of ETFs available in India. Typically, you can choose from the following four different kinds of ETFs:
Equity ETFs
These ETFs track the performance of a basket of stocks. The stocks may pertain to a specific market index, like the Nifty or the Sensex. Alternatively, they may also belong to a specific industry or sector.
Debt ETFs
Also known as fixed income ETFs, these funds invest in a basket of debt instruments and securities. They are often less expensive than debt mutual funds because ETFs are passively managed.
International ETFs
International ETFs use international market indices as their benchmark. For instance, an international exchange-traded fund may track the Nasdaq or the Dow Jones Industrial Average. There are also region-specific international ETFs that track stocks from emerging and established overseas markets.
Gold ETFs
Gold ETFs track the price of gold in the domestic market. One unit of a gold exchange-traded fund equals one gram of the yellow metal. The underlying asset is 99.5% pure physical gold.
Advantages of ETFs
Exchange-traded funds offer a wide range of benefits to investors. Check out some of the key advantages of these marketable funds below:
Lower expense ratio than most traditional mutual funds
Easy tradability on the stock exchanges
Traded at market values, making investment planning easier
Efficient asset allocation and portfolio diversification
How to select an ETF?
Before you buy the units of an exchange-traded fund, you need to factor in some key aspects of the ETF. Here is a closer look at these important considerations:
Category
Depending on your risk profile and your financial goals, you need to choose from the different categories of ETFs like equity, debt, gold or international funds.
Expense Ratio
The lower the expense ratio, the better it is for you as an investor. This means a smaller portion of the fund’s assets will be required for its management and administration, leaving you with higher net returns.
Tracking Error
Exchange-traded funds closely track the underlying asset or index. However, there is always a certain degree of divergence between the underlying asset’s returns and the ETF’s returns. The smaller this tracking error is, the better.
Trading Volume
A higher trading volume indicates greater liquidity. So, before you invest in an ETF, check its trading volume to ensure that it is fairly liquid. This makes it easier to exit your position when you need to.
Conclusion
This ETF guide sums up all the key details you need to know about exchange-traded funds. You can now make a more informed decision about whether or not these funds are suitable for your investment portfolio. Keep in mind that you need to look at the liquidity and profitability of an exchange-traded fund before purchasing it. You also need a clear exit strategy to liquidate your position at the right time.
SIPs let you invest small amounts regularly, making it easier to stay consistent with your goals. With time, your money grows faster through compounding, helping you get the most out of your investments. Try our SIP Calculator to see how your money can grow and make smarter plans for your future.
More Related Articles
Can Mutual Fund Schemes Invest in Upcoming IPOs?
18 July 2025 | 7 mins read
Can Mutual Fund Schemes Invest in Upcoming IPOs? - H1 Initial Public Offerings (IPOs) have become a buzzword among investors looking for high-growth opportunities. Whether it’s a unicorn startup going public or a reputed company entering the equity market, IPOs attract substantial interest. But what about mutual funds — can they participate in IPOs? And if yes, how does it impact you as an investor in a mutual fund? This article explores the role of mutual funds that invest in IPOs, the process behind such investments, and how you can benefit from this strategy. You’ll also gain insights into how fund managers evaluate IPO opportunities and which mutual funds are more likely to invest in them. Role of Mutual Funds in Equity Markets - H2 Mutual funds play a vital role in India’s equity markets. Managed by professional fund managers, these pooled investment vehicles collect money from multiple investors and allocate it across a portfolio of stocks, bonds, or other assets based on the fund's mandate. In the context of equity investing, mutual funds: Provide diversification to small investors Help in price discovery and market depth Act as long-term institutional investors Reduce risk through strategic asset allocation Given their market presence and influence, mutual funds also participate in IPOs, often subscribing to large portions of new issuances. But this activity is more nuanced than simply bidding for shares. Are Mutual Funds Allowed to Invest in IPOs? - H2 Yes, mutual funds in India are allowed to invest in IPOs — both in the primary market (where shares are first issued) and in the secondary market (where stocks are traded after listing). This means mutual funds can apply for shares during an IPO’s book-building process just like retail investors, high-net-worth individuals (HNIs), and institutional investors. SEBI regulations allow fund managers to allocate a portion of the fund’s assets to IPOs, provided the investment aligns with the scheme's objectives and risk profile. For instance: A large-cap fund may only invest in IPOs of companies expected to be included in large-cap indices A multi-cap or flexi-cap fund has more flexibility to take exposure across market capitalisations, including IPOs An ELSS fund (Equity-Linked Savings Scheme) can also participate in IPOs if it aligns with its tax-saving and equity investment objective So, the short answer is: Yes, mutual funds can and do invest in IPOs — but not all funds, and not always. Why and When Do Mutual Funds Invest in IPOs? - H2 Investing in IPOs offers mutual fund managers several strategic advantages, including: 1. Access to Early Growth Potential - H3 Many IPOs are of young, fast-growing companies. By investing early, mutual funds aim to capture the growth upside before the stock gains mainstream popularity. 2. Price Arbitrage Opportunities - H3 If a mutual fund believes that the IPO is underpriced relative to its intrinsic value, it may invest with the intent of benefiting from listing gains or long-term appreciation. 3. Portfolio Enhancement - H3 Some IPOs bring fresh sector exposure or innovation to the market. Fund managers may invest to diversify or rebalance the portfolio with new-age businesses, like fintech or EV startups. 4. Long-Term Bets - H3 Fund managers often look at IPOs with a long-term lens. The goal isn’t always listing gains but building a position in a company expected to perform well over years. 5. Demand and Liquidity Trends - H3 In bullish markets, IPOs tend to be oversubscribed and see strong listing premiums. Mutual funds may participate to ride the market momentum, especially when investor confidence is high. Factors Fund Managers Consider Before Investing in IPOs - H2 While IPOs are exciting, they are also risky and speculative, especially for companies with no prior listing record. Fund managers conduct rigorous due diligence before deciding to allocate your money to an IPO. Here are the key factors considered: 1. Company Fundamentals - H3 This includes examining the company’s: Revenue and earnings trends Debt levels and capital structure Profit margins and business scalability Competitive advantage and market share 2. Valuation Metrics - H3 Fund managers analyse: Price-to-Earnings (P/E) ratio Price-to-Book (P/B) ratio Enterprise Value to EBITDA (EV/EBITDA) These are compared with listed peers in the same sector. 3. Promoter and Management Track Record - H3 A critical evaluation is made on the credibility, governance standards, and historical performance of the promoters and top management. 4. Utilisation of IPO Proceeds - H3 Fund managers study how the company plans to use the funds—whether for debt repayment, expansion, or general corporate purposes. 5. Macroeconomic and Sector Trends - H3 Sectoral outlooks, regulatory policies, and broader market sentiments also influence IPO investment decisions. 6. Anchor Book Participation - H3 Strong interest from anchor investors (like global funds or sovereign wealth funds) signals confidence in the issue, making it more attractive for mutual fund participation. Best IPO Mutual Funds: What to Look For - H2 If you're keen on gaining exposure to IPOs through mutual funds, it's important to choose the right type of fund. While there’s no official category called “IPO mutual funds,” some schemes actively participate in upcoming IPOs. Here’s what you should look for when selecting such a fund: 1. Fund Category and Investment Mandate - H3 Start by checking the category of the fund. Flexi-cap, multi-cap, and mid-cap funds generally have more leeway to invest in IPOs. These funds are not restricted to a single market capitalisation and often aim to capture high-growth opportunities, making them ideal for IPO exposure. 2. Track Record of Participating in IPOs - H3 Review the fund’s portfolio history. Some mutual funds consistently allocate a portion of their assets to new listings. You can find this information in the fund’s monthly factsheet or portfolio disclosure. Look for funds that have a pattern of investing in IPOs over time—not just as a one-off move. 3. Fund Manager's Experience and Strategy - H3 A skilled fund manager makes a significant difference. The manager's ability to evaluate IPO valuations, industry potential, and company fundamentals is crucial. Look for funds managed by professionals with a proven track record in equity investing and a sound IPO selection approach. 4. Diversification and Risk Management - H3 An ideal fund won’t rely heavily on IPOs alone. Instead, it will use IPO investments as part of a broader equity strategy. Ensure that the fund holds a well-diversified portfolio alongside its IPO allocations to reduce volatility and balance risk. 5. Consistent Performance Over Market Cycles - H3 While past performance isn’t a guarantee of future returns, funds that have consistently performed well across different market cycles often reflect strong management and strategy. Look at long-term performance metrics like 3-year or 5-year returns instead of just recent gains. 6. Transparency and Reporting - H3 Good IPO-investing funds are transparent about their holdings. Choose funds that provide detailed disclosures about their portfolio, including new IPO allocations, so you can track how your money is being deployed. Also, read the scheme information document (SID) to understand the fund’s mandate and whether it allows active IPO participation. Should You Invest in a Mutual Fund That Invests in IPOs? - H2 Pros: Access to IPOs without applying individually Professional due diligence and analysis Built-in diversification Potential to capture high-growth opportunities Cons: IPO investments may not always succeed May increase portfolio volatility Returns can be affected by market timing and sentiment If you're a long-term investor, funds that occasionally invest in IPOs can be a good addition to your portfolio — but don’t chase IPO exposure alone. Always assess the fund holistically. Conclusion - H2 Yes, mutual fund schemes in India can and do invest in IPOs, but they do so strategically — not emotionally or impulsively. Fund managers assess multiple factors before deciding to put your money in newly-listed companies. As a retail investor, you benefit from their expertise and risk management process without having to analyse IPOs on your own. If you're looking for exposure to IPOs but want to avoid direct stock-picking, investing in a mutual fund that invest in IPO offers a smart, diversified route. However, always match the fund’s strategy with your risk tolerance, time horizon, and financial goals.
Mistakes People Make While Investing and How to Fix Them
10 July 2025 | 7 mins read
Investing can be one of the most effective ways to build wealth over time. Whether you’re investing in mutual funds or stocks, the goal is simple: earning returns that beat inflation and help you achieve financial freedom. However, investing isn’t just about selecting the right stocks or funds — it’s also about avoiding costly mistakes that can slow your progress down.
How Can ELSS Funds Be Redeemed? Rules for ELSS Withdrawal
26 June 2025 | 9 mins read
Equity-linked Savings Schemes (ELSS) are a type of mutual fund in India that provide tax relief under Section 80C of the Income Tax Act. ELSS have a three-year lock-in period, during which the amount invested cannot be withdrawn. It is important for investors to know the ELSS redemption process, rules, and tax implications while making their financial plans. This article explores the intricacies of ELSS mutual fund redemption, shedding light on the procedures and considerations.
FAQ
What is tracking error?
The tracking error measures the difference between the performance of an ETF and the performance of its underlying index. Fund management costs typically lead to such tracking errors. Occasionally, improper replication of the index could also cause these errors.
What is the expense ratio?
The expense ratio is that portion of the net assets of an ETF that is used to meet the cost of administering and managing the fund. This includes administrative expenses, advertising costs, marketing and distribution expenses and more.
What happens if I do not maintain the required delivery margin in my account?
Maintaining the prescribed delivery margin in your demat account is a mandatory requirement. If you do not do so, you may be subject to penalties and restrictions on your trading endeavours. In extreme cases, your trading account may even be suspended by the broker or the exchange directly. Failure to pay for the securities that you have purchased can also, possibly, lead to legal action by the seller or the exchange.
Can I get a loan against my delivery margin?
Yes, some brokers do offer loans against your delivery margin. However, it is important to understand the terms and conditions and read the fine print beforehand. Do note, taking a loan against your delivery margin may increase your overall trading risk and could potentially result in larger losses. It is advised to carefully evaluate the risks and benefits of taking a loan against your delivery margin before making a decision.
What is an ETF fund?
ETFs, often known as "exchange-traded funds," are exactly what their name implies: funds that follow an index and are typically traded on exchanges. Purchasing an exchange-traded fund (ETF) allows you to buy and sell a collection of assets at any time during market hours, potentially reducing risk and increasing portfolio diversification.
How to invest in ETF in India?
ETF trades take place on the stock exchange where they are listed. Investors must first open a Demat account and a trading account with a broker in order to make investments. You can now open a Zero Brokerage a/c with m.Stock and pay Zero Brokerage for life across all products.
Do ETFs pay dividends?
ETFs do pay dividends. ETFs are required to distribute any dividends received on shares held in the fund portfolio. Therefore, if any of the stocks in which ETFs invest pay dividends, ETFs also do.
Should you invest in ETFs?
ETFs are a low-cost means to get exposure to the stock market. They offer liquidity and real-time settlement because they trade like stocks and are listed on an exchange. ETFs offer diversification over picking a small number of stocks, making them a low-risk alternative to investing in a stock index.