Three Tips For Using An ETF Fact Sheet

by on May 4, 2010 | ETFs Mentioned:

ETFs have become popular among all types of investors in part because of their simplicity. The daily disclosure of holdings, low turnover, and constant objective have made ETFs the preferred vehicle of choice for more and more investors. But ETF investing certainly isn’t a mindless task, as there are countless nuances to these products that can have a major impact on the returns they deliver. As some investors have learned the hard way, failing to do the appropriate research is a path to disappointment (see Ten Common Mistakes Every ETF Investor Should Avoid).

An ETF prospectus the definitive source for uncovering all the details on an ETF’s structure, objectives, risk factors, and fees. But for investors looking for a simplified, succinct summary of an ETF’s risk/return profile, fact sheets can be an extremely valuable resource, containing many of the most important details in one or two pages. Fact sheets for most of the 900+ ETFs listed in the U.S. are available from the sponsor, and they’re also now housed on, providing a centralized location for ETF investors to do their research (see all the New Features On ETF Database).

There’s a wealth of information in ETF fact sheets, including expense ratios and “x-ray” holdings data. Below, we highlight three other pieces of useful information to consider the next time you’re scanning an ETF fact sheet:

1. Index Description

As indexes have been transformed from intangible measures of performance to (essentially) investable assets, investors have begun to analyze the methodologies behind benchmarks with a much keener eye. Most fact sheets contain a detailed description of the underlying index, describing both the types of securities that are eligible for inclusion and the weighting methodology that is used to determine individual allocations. Most fact sheets also list the top holdings of a particular ETF, translating the index requirements into ticker symbols and the weighting strategy into percentages.

For example, the TIP fact sheet describes the conditions required for securities included in the Barclays Capital U.S. Treasury Inflation Protected Index, as well as the weighting methodology (cap-weighting) and the update frequency (last calendar day of each month).

2. Historical Performance

While it’s tempting to look at historical performance as an indication of future results, the historical performance section of an ETF fact sheet is more useful in a different capacity. Most ETF fact sheets display historical returns for both the related ETF and the underlying index, providing an easy way to measure the tracking error or a particular fund. If there’s a big gap between the market price of the ETF and its benchmark, it may be a red flag that warrants further investigation.

The SPY fact sheet shows that the tracking error of the S&P 500 SPDR is minimal; over the last ten years the S&P 500 Index has delivered an annualized return of -0.65%, while the ETF has delivered -0.71%. EEM’s fact sheet, on the other hand, shows more significant tracking error; the ETF has lagged behind the MSCI Emerging Markets Index over the last year.

3. ETF Strategy

Most investors assume that in order to replicate the performance of the underlying index, ETFs buy each component security in exactly the same percentage as its weighting in the benchmark. But that isn’t always the case. Some pursue a full replication strategy, while others utilize a sampling technique that calls for them to construct a smaller portfolio that matches the risk and return characteristics of the complete benchmark. An ETF fact sheet can be a quick way to tell which end of the spectrum an ETF comes in on.

A quick look at the BND fact sheet shows that the ETF has about 3,400 holdings, while the underlying Barclays Capital U.S. Aggregate Bond Index consists of more than 8,400 individual securities. So this ETF clearly uses a sampling strategy in its attempt to replicate the benchmark. This isn’t a bad thing–it’s pretty easy to accomplish in the fixed income space, and can help investors avoid illiquid securities–but it’s good to know before investing.

Disclosure: No positions at time of writing.