ExchangeTraded Funds ETFs

Managing wealth with a possibility to track stock indices

How ETFs work technically speaking ?

  • There is a fundamental difference between common mutual funds and exchange traded funds.

  • When a common mutual fund receives a subscription from an investor, it creates some shares at the Net Asset Value which correspond to the amount of the investor's subscription.

  • For example, if the NAV is at 100 and the investor subscribes for 10 000, the mutual fund will issue 100 new shares and will use the proceeds to invest in stocks/equities (the underlying assets) as per the investment policy of the fund.


However,  ETFs do not sell their shares directly to the investors. Instead, authorised participants (large banks or broker dealers who have been previously appointed by the ETF manager) "create" blocks of ETF shares in the "primary market" by assembling a bundle of securities representing the target portfolio and delivering it to the ETF custodian in return for ETF shares representing the bundle.


This is a subscription in kind, where the authorised participants do not transfer cash to the ETF but equities only. Authorised participants then sell the ETF shares they have received in the secondary market to investors.


Similarly, authorised participants may "redeem" blocks of ETF shares in the primary market. This occurs  when a block of ETF shares are turned in to a custodian, and the authorised participant then receives the underlying bundle of equities in return. In both scenarios the process of creation and redemption - that is, the exchange of ETF shares for individual shares in the bundle - are "in-kind," meaning it is a stock-for-stock transaction.


Tax treatment:

In such circumstances it is interesting to analyse how the investors are treated in different countries.

Indeed, it may appear in some legislation that such "in kind" processes are not taxable at all. And in some cases, if they are taxable, certain countries will delay the taxation until the ETF shares are sold and the final total of proceeds is known. In this case, some investors might experience a "tax holiday" until they have liquidated their entire portfolio.

Certain countries may also exempt or reduce the tax rate applicable to these transactions. It is important that investors thoroughly analyse whether they will benefit from favourable tax treatment on such operations, as stock-for-stock transactions are not always free.


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