when the etn matures the financial institution takes out fees and then gives the investor cash based on the performance of the underlying index since etns trade on major exchanges like stocks investors can buy and sell etns and make money from the difference between the purchase and sale prices minus any fees 2
etns are different from exchange traded funds etfs etfs own the securities in the index they track for example an etf that tracks the s p 500 will own all 500 stocks in the s p etns do not provide investors ownership of the securities but are merely paid the return that the index produces as a result etns are similar to debt securities the investors must trust that the issuer will make good on the return based on the underlying index 1etns were first issued by barclays bank plc in 2006 banks and other financial institutions typically issue etns at 50 per share part of the market price depends on how the underlying index is performing 34etn risksthe repayment of the principal invested depends in part on the performance of the underlying index if the index either goes down or does not go up enough to cover the fees involved in the transaction the investor will receive a lower amount at maturity than what was originally invested 2the etn s ability to pay back the principal plus gains from the index it tracks depends on the financial viability of the issuer as a result an etn s value is impacted by the credit rating of the issuer the value of the etn could decline due to a downgrade in the issuer s credit rating even though there was no change in the underlying index investors must be aware of the risk that the issuer of an etn may be unable to repay the principal and default on the bond also political economic legal or regulatory changes may affect the financial institution s ability to pay etn investors on time 5the financial institution issuing the etn might use options to achieve the return from the index which can increase the risk of losses to investors options are agreements that can magnify gains or losses where the issuer has the right to transact shares of stocks by paying a premium in the options market options are usually short term contracts and the premiums can fluctuate wildly based on market conditions 6investors also have closure risk meaning the issuer might be able to close the etn before maturity in this case the investor would be paid the prevailing price in the market if the sale price is lower than the purchase price the investor can realize a loss the early redemption feature of an etn is stated upfront 5the price of the etn should track the index closely but there can be times when it does not correlate well called tracking errors tracking errors happen if there are credit issues with the issuer and the price of the etn deviates from the underlying index 5if a financial institution decides not to issue new etns for a period prices of existing etns could jump significantly due to the lack of supply as a result existing etns could trade at a premium to the value of the index it tracks conversely if the bank suddenly decides to issue additional etns prices of existing etns could fall due to excess supply 5trading activity for etns can be low or fluctuate dramatically the result can be etn prices that are trading at far higher prices than their actual value for those looking to buy also these products may sell at far lower prices than their value for investors looking to sell due to the varying prices of etns investors who sell an etn before maturity can realize a large loss or gain 7etn investors earn profit if the underlying index is higher at maturity investors don t need to own the underlying securities of the index they track exchange traded notes trade on major exchanges exchange traded notes don t make regular interest payments etns have default risk since the repayment of principal is contingent on the issuer s financial viability trading volume can be low causing etn prices to trade at a premium tracking errors can occur if the etn doesn t track the underlying index closely tax treatment of etnstypically the difference between the purchase price and selling price of the etn should be treated as a capital gain or loss for income tax purposes the investor may defer the gain until the etn is sold or matures however investors should seek counsel from a tax professional for any potential tax ramifications that might exist for their specific situation 8example of an etnthe jpmorgan alerian mlp index etn amj is an energy infrastructure etn it tracks companies in the energy sector that are master limited partnerships mlps mlps are publicly traded partnerships some of which are responsible for building the energy infrastructure in the u s 9amj has 3 39 billion in assets and an expense ratio of 0 85 as of may 8 2024 since 2019 the etn has traded between approximately 6 and 29 per share 10911investors must consider the risks present with etns these risks include not only the credit risk of the issuer but also the risk that the etn s share price could decline significantly as in the case of amj 