What Is An ETN?

Investors typically use the term "ETF" to mean a lot of things that aren't technically "exchange-traded funds": commodity pools, grantor trusts and debt securities.

We're guilty of this too: After all, this is ETF.com, but we cover all types of products. It's the term of art, so we'll roll with it.




The downside of an ETN is that if the underlying bank goes bankrupt, you lose essentially all of your money. There were, for instance, a few ETNs backed by Lehman Brothers. While most investors in Lehman's ETNs fled before the firm shut down, anyone who held to the bitter end probably still has a bad taste in their mouth.

The good news is that this credit risk in most situations is very minor. Institutional investors can "redeem" (or get their money back) from the underwriter of an ETN on a daily basis. While anything can happen, you can usually see major bank defaults coming more than a day or two ahead of time.

The even-better news is that credit risk is easily monitored. Here at ETF.com, we monitor and report on the credit risk of every ETN on a daily basis. We do that by watching the cost of credit default swaps (CDS) on the underwriting banks each day. CDS are like insurance—investors buy them to protect themselves against a company's default—so they are the best possible view of the likelihood a bank will go down.

How do you check? Just pull up the Efficiency Tab on any ETN (i.e., www.etf.com/amj) and check out the ETN Counterparty Risk measure. If it says "Low," you're OK. If it says "High," run for the hills.

Next: ETFs Vs. Mutual Funds: Which Is Right For You?

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