ETFs Glossary

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Passive management

A market strategy that involves selecting a benchmark index to assure investment performance is the same as the underlying index. Passive investing assures that an investor will not underperform (or outperform) a market index. Passive management is opposite of active management.

Performance drag

A reduction of portfolio performance due to various factors. An example of performance drag occurs when gains within a portfolio are offset by various expenses, such as management fees, transaction costs, research costs, etc. These expenses create a drag or negative effect on the portfolio's performance.

Portfolio turnover

Relates to the frequency with which a money manager is buying and selling securities within a fund. High portfolio turnover translates into higher trading costs whereas low portfolio turnover is better because it lessens the impact of trading and tax related costs.

Premium to NAV

Unlike regular open-end mutual funds, which are bought and sold directly from the fund company at the net asset value (NAV) of their portfolio securities, ETFs and closed-end funds trade at prices determined by the market forces of supply and demand. A fund that trades at a price higher than its NAV is said to trade at a premium to its NAV.

Price/Book (P/B) ratio

The price/book (P/B) ratio of a fund is the weighted average of the price/book ratios of all the stocks in a fund's portfolio. Book value is the total assets of a company, less total liabilities (sometimes referred to as carrying value). A company's book value is calculated by dividing the market price of its outstanding stock by the company's book value, and then adjusting for the number of shares outstanding. (Stocks with negative book values are excluded from this calculation.) In computing a fund's average P/B, Lipper weights each portfolio holding by the percentage of equity assets it represents, so that larger positions have proportionately greater influence on the final P/B.

Price/Earning (P/E) ratio

The price/earnings (P/E) ratio of a fund is the weighted average of the price/earnings ratios of the stocks in a fund's portfolio. The P/E ratio of a company, which is a comparison of the cost of the company's stock and its trailing 12-month earnings per share, is calculated by dividing these two figures. In computing the average, Lipper weights each portfolio holding by the percentage of equity assets it represents, so that larger positions have proportionately greater influence on the fund's final P/E. A high P/E usually indicates that the market will pay more to obtain the company's earnings because it believes in the firm's ability to increase its earnings. (P/Es can also be artificially inflated if a company has very weak trailing earnings, and thus a very small number in this equation's denominator.) A low P/E indicates the market has less confidence that the company's earnings will increase; however, a fund manager or an individual with a 'value investing' approach may believe such stocks have an overlooked or undervalued potential for appreciation.

Price spread

The difference between the "bid" and "ask" price on a stock or ETF.

Prospectus

Required by securities laws and issued by mutual fund companies and ETFs, the prospectus is a legal document that discloses the investment objectives of the fund, operating history, fund management, management fees, portfolio holdings, and other related financial data. Brokers are required to give a prospectus to investors before they invest.