How do Exchange Traded Funds work?

BMO Exchange Traded Funds

E
xchange Traded Funds (ETFs) are open-ended funds will redeem units. The ability to create additional units
that are listed and trade like stocks on a stock to meet demand is an important part of the liquidity
exchange. ETFs are usually designed to provide, to of an ETF, which is best reflected by the liquidity of the
the extent possible, the return of a broad asset class such underlying securities, not by the liquidity of the ETF itself.
as Canadian equities and Canadian fixed income, or of
a narrower industry or sector within the asset class. The  Market tracking
listing and trading on exchanges represents one important
The purpose of an indexed ETF is to track as closely as
way that ETFs fundamentally differ from mutual funds.
possible the return of a specific market benchmark or
Units of mutual funds can be purchased only once a day,
index. Deviation from the benchmark return, known as a
at the fund's closing Net Asset Value (NAV), whereas an
tracking error, can occur for several reasons. One of these
ETF can be traded at any point throughout the trading day.
is fund trading costs. Since the underwriters deliver, or take
The benefits of the ETF structure include:
possession of, the underlying securities during subscriptions
• low management fees and redemptions, ETFs negate the need for the Fund
• portfolio transparency Manager to trade securities on the exchange. Therefore,
• investment flexibility trading and commission costs are kept to a minimum.
• high liquidity
Another significant source of tracking can be “cash drag”,
• diversification
which is the result of an uninvested portion of a portfolio’s
• tax efficiency
net assets. ETFs maintain low cash levels due to the
subscription and redemption mechanism. An ETF will seek
Unit creation to further minimize cash drag by reinvesting the proceeds

An ETF may be created to track an index either by holding or providing quarterly income distributions to investors.
a representative basket of securities to match or sample
the index, or by using derivative products to simulate the Uses of ETFs
index return. An approved underwriter, usually a large 
ETFs can be important investment tools for both
securities dealer, will generally deliver the underlying
institutional and individual investors. They are used to
basket of securities to the Fund Provider in exchange for
gain exposure to markets and sectors. ETFs are valuable
the units of the fund. The underwriter will then continue
tools for core satellite investment strategies, for asset
to create or redeem units based on the demand for units
allocation, as well as for equitizing cash positions.
from investors in the secondary market on the exchange.
Furthermore, investors can use ETFs to implement
If demand exceeds supply, or the spread between the “bid
positive or negative views by investing long or short
and ask” on the exchange is growing, more units will be
in the appropriate ETF.
created. If the supply exceeds demand, the underwriter
01/13 (12-891J)

Visit bmo.com/etfs or contact Client Services at 1-800-361-1392.

Commissions, management fees and expenses all may be associated with investments in exchange traded funds. Please
read the prospectus before investing. Exchange traded funds are not guaranteed, their values change frequently and past
performance may not be repeated.
This communication is intended for informational purposes only and is not, and should not be construed as, investment and/or tax advice to any individual.
Particular investments and/or trading strategies should be evaluated relative to each
individual’s circumstances. Individuals should seek the advice of professionals, as
appropriate, regarding any particular investment.
BMO ETFs are managed and administered by BMO Asset Management Inc., an
investment fund manager and portfolio manager and separate legal entity from the
Bank of Montreal.
®
"BMO (M-bar roundel)" is a registered trade-mark of Bank of Montreal, used under licence.