Differentiating financial products can be a challenge. For investing in particular, the various types of funds often have us wondering, "What's the difference?" For ETFs (exchange-traded funds) and ETNs (exchange-traded notes), there are some key similarities and differences.
Here's a rundown of the fundamentals as well as how to spot ETFs and ETNs in the market.
How ETFs and ETNs are similar
ETFs and ETNs are both a type of exchange-traded product.
They fall under the same umbrella but have some key differences (think of them as cousins). As evidenced in the name, they're both traded on the exchange during market hours. The returns for an ETN track a particular index, which is often the case with ETFs.
How ETFs and ETNs are different
There are more differences than similarities between the two.
ETFs are a basket of underlying securities. Think of each one as a collection of stocks. ETF strategies run the gamut, from geography (i.e. international), company size (i.e. large cap), sector (i.e. solar power), index (i.e. S&P 500), and more.
On the other hand, ETNs represent a bond. A large institution like a bank issues the bond in the form of an ETN. Each one tracks a specific index, and the bank promises the returns for the index. Once the bond matures, the issuer returns the investment principal (aka the investor's initial loan for the bond to the ETN issuer).
ETFs are required to have a board of directors, while ETNs don't have to.
ETFs and ETNs have unique risks
From a broad perspective, ETNs seem to be riskier than ETFs. If the issuer (like a bank) goes bankrupt, the investor loses their entire principal and any promised returns. The investor risks being exposed to the issuer's credit flops.
Also, ETN managers might trade or hedge within the bond to maximize their own investment, which might not always be in investors' best interest.
Despite these risks, ETNs track indices extremely well, which makes them reliable if all goes well. There also tend to be ETNs in particular niches where you won't find any ETFs. So, it might be your only option of getting into that corner of the market.
ETNs also tend to be treated more favorably for taxes. Unlike ETFs, they mainly produce long-term capital gains rather than a collection of various taxable returns.
Examples of ETNs in the market
The Barclays Women in Leadership ETN (WIL) follows an index of the same name. This ETN tracks female-led companies. The net assets are pretty low at $3.91 million, but one-year returns of 45.06 percent are above the market average.
Another ETN example is the JPMorgan Alerian MLP Index ETN (AMJ), which follows an energy infrastructure index. This is a much more robust ETN with $1.9 billion in assets.
Examples of ETFs in the market
There are a lot more ETFs to choose from than ETNs, and they're easier to trade (you can find them on most trading websites or apps). ETFs are going to be the go-to over ETNs for most retail investors. The Invesco QQQ ETF tracks the Nasdaq 100, while the iShares MSCI Emerging Markets ETF (EEM) covers economies in developing regions.
For a more niche ETF option, the Millennials Thematic ETF (MILN) targets companies with millennial audiences (people born between 1980 and 2000). Don't be afraid to explore the market to see what's out there, and check fees, holdings, and historical performance before investing in any fund.