First Trust Advisors L.P. Provides Distribution and Investment Risk Information for Exchange-Traded Funds
First Trust Advisors L.P. has provided detailed investment risk and product information relating to its exchange-traded funds (ETFs), highlighting the range of market, operational, derivatives, liquidity, concentration and other risks that investors should consider when evaluating fund investments.
The disclosures emphasize that an investment in an ETF involves the potential for loss and that there can be no assurance that a fund will achieve its investment objective. Fund shares can fluctuate in value as market conditions change, and investors could lose some or all of their investment depending on the fund and the circumstances.
The information also outlines risks associated with ETF structures, securities markets, derivatives, Target Outcome strategies, commodities, smaller companies, concentrated portfolios and other investment techniques.
The value of a fund’s shares can change over time as the securities and other assets held by the fund fluctuate in value. Investors should therefore recognize that purchasing ETF shares is different from making a bank deposit.
An investment in a fund is not a deposit or obligation of a bank and is not insured or guaranteed by the Federal Deposit Insurance Corporation or another governmental agency. The disclosures state that there is no assurance that a fund’s investment objectives will be achieved.
Investors also face risks similar to those associated with investing in portfolios of equity securities traded on exchanges. The specific risks associated with an individual fund are detailed in its prospectus, shareholder reports and other regulatory filings.
Market conditions can be affected by numerous factors, including economic developments, changes in interest rates, regulatory actions, political events and shifts in investor sentiment. These developments can affect individual securities as well as broader financial markets.
Unlike mutual fund shares that may generally be redeemed directly with a fund by eligible investors, ETF shares are generally created and redeemed directly from a fund only by authorized participants in large creation or redemption units.
Individual investors typically buy and sell ETF shares through the secondary market. As a result, ETF shares may trade at prices above or below their net asset value.
The disclosures note that ETF shares may trade at a discount to net asset value and could potentially face delisting. These structural characteristics mean investors should consider both the underlying portfolio and the trading characteristics of the ETF when evaluating an investment.
Liquidity conditions can also vary depending on the securities held by a fund and prevailing market conditions.
Funds with exposure to small- and mid-capitalization companies may experience risks that differ from those associated with larger companies.
Small- and mid-cap companies can have less established operations and securities that are less liquid than those of larger, more established businesses. Their share prices may therefore experience greater volatility.
At the same time, large-capitalization companies can face different growth characteristics. The disclosures note that larger companies may grow at a slower rate than the overall market.
These differences can affect a fund’s performance depending on its investment strategy and the types of companies included in its portfolio.
Funds generally distribute income generated by their investments. However, the amount available for distribution can vary depending on the income generated by the portfolio and other factors.
If a fund has insufficient income, it may be required to reduce its distributions. In certain circumstances, a distribution may exceed a fund’s current and accumulated earnings and profits. Amounts distributed beyond those earnings may be treated as a return of capital.
A return of capital is different from income generated by a fund’s investments. The treatment of distributions can depend on the fund’s activities and the applicable tax rules.
The disclosures also note that there may be circumstances in which all or a portion of a distribution is treated as a return of capital. For example, securities may be sold to cover a derivatives position that generated all or part of a distribution.
Investors should review the applicable fund documents and tax information to understand how distributions may affect their individual circumstances.
Current market conditions represent another important source of risk for fund investors.
A particular investment or the shares of a fund may decline in value because of developments affecting financial markets. Such developments can include changes in government fiscal and regulatory policies, disruptions in banking and real estate markets, international conflicts and hostilities, and public health crises.
These factors may influence investor confidence, asset prices, market liquidity and economic activity.
Market risk can also arise from changes in interest rates, economic conditions, regulatory developments and perceived trends in securities prices. Local, regional or global events may produce significant negative effects on a fund’s investments.
Funds also face operational risks associated with the systems, processes and third-party service providers involved in managing and administering their portfolios.
Cybersecurity breaches could potentially result in regulatory penalties, reputational damage, additional compliance costs and financial losses. Although funds and their investment advisers may implement controls and procedures intended to reduce operational risks, the disclosures note that such risks cannot be eliminated completely.
Funds also depend on third parties for services such as custody and other operational functions. Delays, disruptions or failures involving these service providers could affect a fund’s ability to operate effectively or achieve its investment objectives.
Certain funds use Target Outcome strategies involving Flexible Exchange Options, commonly known as FLEX Options.
These strategies are designed to provide a particular return profile over a defined Target Outcome Period. Depending on the specific fund and series, the strategy may seek to provide returns that match, or for certain X series approximately twice, the performance of a reference asset, subject to a predetermined upside cap and a specified approach to limiting downside losses.
The strategy is designed around the assumption that an investor purchases fund shares on the first day of a Target Outcome Period and holds those shares until the FLEX Options expire.
However, investors who purchase shares after the beginning of a Target Outcome Period or sell their shares before its expiration may experience results that differ from the targeted outcome.
If an investor does not hold the shares for the entire Target Outcome Period, the investment may not receive the intended downside buffer and may not participate in gains up to the stated cap in the same manner as an investment held for the full period.
The disclosures further warn that FLEX Options can involve risks different from, and potentially greater than, those associated with direct investments in securities. Certain FLEX Option positions may expire worthless, and there is no guarantee that a liquid secondary market will exist for the options.
Funds that use derivatives may be exposed to additional sources of risk.
Listed and over-the-counter derivatives can include futures, options, swaps and forward contracts. Their values may be affected by movements in the price or value of an underlying security, index, commodity, interest rate or other reference asset.
Losses associated with derivatives can sometimes be magnified by the structure of the instrument. As a result, derivative strategies can produce outcomes that differ substantially from simply owning the underlying asset.
Portfolio managers may use investment techniques and risk-analysis methods intended to manage these exposures, but there is no guarantee that those techniques will produce the desired results.
A fund classified as non-diversified may invest a relatively large percentage of its assets in a limited number of issuers.
This structure can increase a fund’s sensitivity to developments affecting individual companies or a small group of issuers. An adverse economic, financial or regulatory development involving one or more holdings could therefore have a significant impact on the fund.
Similarly, funds with significant exposure to a particular asset class, country, region, industry or sector may be more affected by adverse developments within that area than a broadly diversified fund.
Investors should therefore consider a fund’s portfolio composition and investment strategy alongside its overall objectives.
Commodity exposure can introduce substantial volatility. Commodity prices can move rapidly and unpredictably, potentially causing the value of a fund’s shares to fluctuate significantly.
Certain securities can also be affected by call, credit, extension, income, inflation, interest-rate, prepayment and zero-coupon risks.
Changes in interest rates can influence the market value of securities and the income generated by certain investments. Other fixed-income characteristics, including the possibility of early repayment or changes in the timing of cash flows, can also affect fund performance.
Certain funds may obtain exposure to investments through a wholly owned subsidiary organized under the laws of the Cayman Islands.
The disclosures explain that changes in U.S. or Cayman Islands laws could affect a fund’s ability to operate its subsidiary structure as intended.
The subsidiary is not registered under the Investment Company Act of 1940 and therefore is not subject to all of the investor protections provided by that legislation to registered investment companies.
This structure introduces additional legal and regulatory considerations for funds that use subsidiaries as part of their investment strategies.
The disclosures also address funds that use certain underlying ETFs or reference assets in connection with their investment strategies.
The relevant funds are not sponsored, endorsed, sold or promoted by the organizations associated with State Street SPDR S&P 500 ETF Trust, SPDR Gold Trust or iShares Silver Trust, as applicable.
The referenced corporations have not passed on the legality or suitability of the funds or the accuracy or adequacy of descriptions and disclosures relating to the funds or FLEX Options. They also make no representations or warranties regarding the advisability of investing in the funds or the results that may be obtained.
The disclosures further clarify that those corporations have no liability relating to the management, administration, marketing or trading of the funds or FLEX Options.
The Target Outcome registered trademarks are registered trademarks of Vest Financial LLC.
The information provided by First Trust Advisors L.P. underscores that ETFs can involve a broad range of investment risks depending on their underlying assets, strategies and structures.
While ETFs can provide investors with access to diversified portfolios, specific market segments or specialized strategies, their values can fluctuate and investors can lose money. Funds employing derivatives, commodities, concentrated portfolios or Target Outcome strategies may carry additional risks that differ from those associated with more traditional investment products.
Investors should carefully review each fund’s prospectus, shareholder reports and regulatory filings before making an investment decision. Particular attention should be given to the fund’s investment objective, strategy, distribution policy, fees, portfolio composition, liquidity characteristics and specific risk factors.
The disclosures also make clear that certain funds have characteristics that differ from traditional investment products and may not be appropriate for every investor.
Overall, the information emphasizes the importance of understanding the structure and investment strategy of an ETF rather than relying solely on its distribution characteristics or historical performance. Market movements, portfolio composition, derivatives exposure, operational events and broader economic developments can all influence the value and performance of a fund.
Source link: https://www.businesswire.com
