The forest of ETFs

I have made few posts concerning ETFs but I have thought plenty about it and I have been digging a little also. Today the ETF market is a jungle. I get the feeling that once someone has established a new system that starts to attract investors then pretty soon every financial institute start up plenty of "products" in that field so that you can hardly see the individual trees due to the forest.

Today there are ETFs covering every field you can think of (index, large cap, small cap, regions, segments, commodities etc.) and too make matters even worse there are even long and short and leveraged ETFs. The ETFs can also be physical replications (meaning the bank/broker actually own the shares) or they can be SWAPS (meaning that an agreement has been made between your ETF and a third part that holds the money). There are ETFs paying out dividends and there are ETFs that directly re-invested the dividends.


What worries me is that when something is attractive and profitable then the financial institutes are going there. Today in Germany the brokers are trying to steal the customers from each other by offering money to the people that change to them. If a broker is prepared to pay out up to 500 € for a client to bring 10,000 € worth of ETFs to them then the question is how much is their profit? I mean many of the ETFs are as they are and have been bought or sold from another broker/customer.

My guess is that it comes from the SWAPS. To my knowledge it is yet another unregulated market and since it is not a physical replication it is cash that the financial institute can then actually play around with in the meantime.

As an example on how I understood it... you buy a SWAPS-ETF for 1,000 €. This money is given to the broker and they either themselves, but most likely someone else takes the responsibility to "pay out" dividends and any increases that have happened with the SWAPS-ETF when you decide to sell. Since it will most likely be bought by another customer anyway which means that the increase in the SWAPS-ETF will be paid buy someone else. If they want to bring in more money they can of course sell more SWAPS-ETF shares as they see fit. So the "risk" of the bank/broker is that they need to generate more than what the dividend payment/increase is per year if the SWAPS-ETF pay out a dividend and they need to do nothing if the dividends are directly re-invested. Clever by them or I might have understood it completely wrong.

The only ETFs of interest to me will be the index based and if possible with physical replication. I will even be prepared to pay a slightly higher % fee for a physical replicated ETF than a SWAPS-ETF that definitely are not allowed to have a higher fee than 0.5%. Here in Germany I will need to pay taxes no matter if the ETF pay out dividend or if they directly re-invest it so that will also not matter much to me.