Understanding liquid ETFs
Liquid ETFs have been designed with an aim of offering investors a highly liquid and cost-effective investment instrument. The diversified portfolio consists of short-term, low-risk debt securities, such as treasury bills, certificates of deposit, commercial papers, and collateralised lending and borrowing obligations with residual maturities ranging up to a maximum of 91 days. The units of this ETF are traded on stock exchanges just like individual stocks.Benefits of liquid ETFs
Liquid ETF presents multiple advantages:
- Ease of use: When you invest in liquid ETFs, you can conveniently buy or sell units on the exchanges, by way of your investment application or a broker. This makes the process much simpler. Further, the highly liquid nature of these ETFs ensure that you never have to wait too long to buy in or exit the scheme, enabling you to keep your funds at standby.
- Flexibility: Investors can use liquid ETFs for various purposes, including as a parking place for idle cash, an alternative to savings accounts, or as a short-term investment option.
- Income Distribution: If you are keen on opting the income distribution cum capital withdrawal option for the funds parked in a liquid ETF, you can choose specific schemes which make it a practice of crediting the accrued gains to the investor.
Should you opt for a liquid ETF?
There are many scenarios wherein a liquid ETF can be an excellent investment option. For instance, if you have idle cash, in the form of your emergency fund or corpus for staggered investment, you can relegate these funds to a liquid ETF. Not only will your money be in a comparatively safe instrument, ready to be liquidated at a moment’s notice, but it will also earn you steady returns during the waiting period. Once sold, the proceeds are transferred to a person’s demat account on a T+1 day basis. In effect, an investor gets an instrument which provides a good mix of liquidity and returns.Secondly, liquid ETFs are a great option for traders who are waiting on the sidelines for the right position. When you exit a certain position, you can park the proceeds in liquid ETFs right away, and redeem the units when you are ready for the next call, thereby earning returns even when you are not trading actively. Liquid ETFs typically feature a relatively low expense ratio. The expense ratio of Liquid ETF can be as low as 0.25%.In the Indian market, all four available Liquid ETFs aim to maintain a constant Net Asset Value (NAV) by employing an “income distribution cum capital withdrawal” plan. This strategy involves interest/ capital gain on liquid ETF being accumulated and paid out as income distributions once a week/month. While some Liquid ETFs reinvest these gains in fractional units, which can be sold through brokers, this can be operationally cumbersome for investors. On the contrary, ICICI Prudential Liquid ETF simplifies the process by crediting the investor’s bank account with accrued gains on a monthly basis. However, investors should be mindful that such gains are subject to taxation.
How to Invest in liquid ETFs?
You can start investing in liquid ETFs by opening a demat account which is essential for holding and trading ETF units. Following this, select the liquid ETF while ensuring that it aligns with your liquidity needs and investment horizons. Once this is done, you can place orders for ETF units through your trading account, during stock market hours.
If you have idle funds in your savings or trading account, a liquid ETF can be an excellent alternative to park those funds. Given its multifaceted advantages to both investors and traders, liquid ETFs are now cementing their status as the go-to instrument for ultra short-term investments.
(Chintan Haria is Head – Investment Strategy at ICICI Prudential AMC)
