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Exchange traded products

Introduction to ETPs

An exchange traded product (ETP) is an investment vehicle that tracks the performance of a selection or ‘basket’ of related assets, such as indices, commodities or currencies.

ETPs were developed to combine the benefits of several other trading instruments, such as shares and index trackers, and have become increasingly popular as an alternative investment method.

What do ETPs do?

ETPs are designed to mirror an existing underlying market, such as an index or commodity. Their purpose is simply to mimic the performance of the underlying market and yield a similar return.

You would not expect an ETP to outperform the market it tracks. However, because they incorporate the best of other investment instruments, ETPs can often be more attractive than trading the underlying market directly.

How do ETPs work?

The defining characteristic of an ETP is that you trade it on a regulated stock exchange, just like an individual share. ETPs are priced continuously through the day, like shares, so you can trade them at any time during market hours.

You can also short-sell ETPs, attach limit and stop-loss orders, and trade them on margin.

Understanding ETPs

When you trade an ETP, tracking an index for example, rather than buying shares in the individual companies of that index you are buying into a portfolio of those companies. You are basing your trade on the combined performance of multiple entities, rather than the fortunes of an individual company.

Whether the ETP is tracking an index with 100 constituent companies, or five or ten energy sector companies, you place one trade at one price. This simplicity can be an advantage or a limitation, depending on the nature of your trading strategy and the markets in question.

With an ETP, the individual instruments are set, and you cannot adjust them as you like. You are bound by the portfolio and the companies it has been set up to track. In a sense, you are backing a rising or receding tide, rather than a particular ship.

ETP examples

With the UK Top 100 Tracker ETP you can follow the fortunes of the 100 largest companies on the LSE with just a single trade. This saves you money on the commission you would have to pay on each individual trade and makes it much easier to manage the contract.

Similarly, the Dow Jones AIG (DJ-AIG) Industrial Metals ETC (exchange traded commodity) tracks the combined performance of the aluminium, copper, zinc and nickel companies on Wall Street, giving a broader view of the sector than a single commodity could and conveniently bundling all together in a single trade.

understanding-etps

Growth of ETPs

The first ETP was traded in the US in 1989, and despite initial regulatory hurdles, this new trading method grew quickly in popularity. ETPs today are available on a huge range of markets, and are offered by an ever-increasing number of providers.