Physical replication refers to the situation in which an exchange traded fund (ETF) tracks its benchmark by holding all or a portion of all the underlying securities that make up that benchmark. For example, the iShares FTSE 100 ETF holds underlying assets in the constituents of the FTSE 100.
Physically replicated ETFs tend to come in two main types:
- Full replication ETFs, which hold all the securities in their benchmark
- Sample replication ETFs, which hold a representative example of the securities in their benchmark
An ETF that does not hold any of the securities that make up its benchmark is referred to as a synthetically replicated ETF. Because physically replicated ETFs hold underlying assets, there is less of a counterparty risk than with synthetically replicated ETFs.