Synthetic ETF

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DEFINITION of 'Synthetic ETF'

An investment that mimics the behavior of an exchange-traded fund (ETF) through the use of derivatives such as swaps. Proponents of synthetic ETFS say they do a more accurate job of tracking indexes; critics say that synthetic ETFs face counterparty risk, are not transparent and may mislead investors. Other variations on the plain vanilla ETF include currency ETFs, inverse ETFs, international ETFs, leveraged ETFs and ultra ETFs.

INVESTOPEDIA EXPLAINS 'Synthetic ETF'

Synthetic ETFs are common on the Hong Kong Stock Exchange, which differentiates them from traditional ETFs by placing an "X" in front of their names. The country's financial regulators, concerned about whether investors are financially sophisticated enough to understand the different characteristics and risk profiles of synthetic ETFs, have subjected synthetic ETFs to greater scrutiny and imposed additional requirements on the institutions that issue them. Synthetic ETFs have faced similar issues in European markets.

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    Most derivatives contracts have provisions allowing for early termination and netting out the initial investment. The early ... Read Full Answer >>
  2. What kinds of derivatives are traded on an exchange?

    There are many different types of derivatives traded on exchanges including options, futures, swaps and forward contracts. ... Read Full Answer >>
  3. Who regulates the various types of exchange traded funds (ETFs)?

    The Securities and Exchange Commission (SEC), under the Securities Act of 1933, regulates the vast majority of exchange-traded ... Read Full Answer >>
  4. What does the notional principal of a derivative contract refer to?

    The notional principal amount of a derivative refers to the nominal, or predetermined, value used to calculate payments made ... Read Full Answer >>
  5. Who is the counterparty of a derivative?

    The counterparty to a derivative is the party who takes the other side of the trade. Every derivative trade needs to have ... Read Full Answer >>
  6. How does arbitrage affect the price of exchange traded funds (ETFs)?

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