Does an ETF track its underlying index by its price?

Sep 11, 2017 in Total Return


Does the ETF market price track the ETF's underlying index?

No.    You must calculate the Total Return and use that resulting data series for accurate backtesting signals.


ETFs as you may be aware are designed to track an index.  In order to have the ETF track the index in terms of a backtest, you need to re-vinvest the dividends and distributions paid.   An 'index' of course doesn't make distributions since it is not an actual investment product.  So the 'index price' actively builds the dividends back into the calculation of the index value (price).   But ETFs don't do this, they must pay out distributions by SEC law.   
Thus, only the CALCULATED total return data series can represent the INDEX PRICE (the ETF PRICE does not).   If you just used the ETF price, you will get inaccurate signals.  You can observe the difference between the price return and total return in our Total Return vs Price Return module.

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ETF Total Return vs Volatility Scatterplot for trailing 6 months

Aug 21, 2017 in Total Return | Volatility

 Return vs Volatility Scatterplot for trailing 6 months


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What was the S&P 500 Total Return for 2014?

Jan 04, 2015 in S&P 500 | Total Return

Total return measures capital appreciation AND the return associated with dividends (and any other distributions -- such as capital gains distributions). It is always surprising how many emails we receive saying our numbers are incorrect because people compare one price to another price. That is INCORRECT. The correct TOTAL RETURN for 2014 for SPY was +13.5%, not 11%. Total return in 2014 was +2.3% higher than the price return. (There is no actual such thing as a 'price-only S&P' -- the S&P index price only exists as an index, NOT as an investable fund -- nobody would be so stupid as to buy a fund that doesn't pay out its earned dividends). For ETF's with higher yields -- (and/or for those with cap gains distributions) -- this difference will obviously be higher.

Over a few years, this difference really adds up to be a VERY substantial amount.







Click for link to free Total Return vs Price Return Page

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SPY S&P 500 Index Total Return For 2013

Jan 01, 2014 in S&P 500 | Total Return


Total return measures capital appreciation AND the return associated with dividends (and any other distributions -- such as capital gains distributions).     It is always surprising how many emails we receive saying our numbers are incorrect because people compare the year-end SPY price to the previous year-end. That is INCORRECT. The correct TOTAL RETURN for 2013 for SPY was +32.3%.    That is +2.6% higher than the price return.   For ETF's with higher yields -- (and/or for those with cap gains distributions) -- this difference will be higher.   

Over a few years, this difference really adds up to be a substantial amount.   



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S&P 500 Total Return For 2013

Jul 19, 2013 in S&P 500 | Total Return

People seem to get confused by this so let's just update the Total Return for 2013 here and explain a few things.  Below is a chart of our Free Total Return vs Price Return webpage with the same security below from a leading institutional platform.   The numbers are the same.  One of the key benefits of having an exchange is the data comes from the exchanges, not some proprietary source (which is unlike the bond 'market' -- where there is no exchange).




A few comments:

First,  an index does not have shareholders.   Indexes are uninvestable --- what you are investing in (be it an index mutual fund or an ETF) is a financial PRODUCT that tracks (or attempts to track) an index.

Since an index does not own any shares of the companies in the index,  companies in the index do not owe the index any cash like a regular shareholder is entitled (dividends).   This creates a difference in those securities that are investable (ETFs) and those securities that are not (indexes that aren't total return).

Now, you can buy options and futures based on an INDEX --- but those are derivatives and thereby do not need underlying securities.   It should be pointed out that ETFs are not derivatives any more than a mutual fund is a derivative.   In fact, most ETFs are registered under the very same 1940 Securities & Exchange Commision (SEC) act as mutual funds.   The basic structure is the same --- though the mechanics are different.

Some people mistakenly think that since when you buy an ETF and you are therefore getting ETF shares, that represents a derivative.  It most certainly does not.   When you buy a piece of property, you get a deed (a legal contract).   When you buy a stock, you get a stock certificate.   When you buy a mutual fund you get mutual fund shares.    These are not derivatives.   The vital difference is that derivatives do not hold the underlying securities ----  ETFs DO hold the underlying securities, which makes them regular pooled investment funds.

Now, since ETFs hold various numbers of shares, they are paid cash when companies make those distribution payments (dividends) to shareholders. It is important that you account for these distributions as when you go to rank securities,  the entire ranking process will be compromised unless you are using the same process across all securities in the list.    In fact, one error in a list of securities can impact the entire rank order and actually affect the chosen securities to be included in a backtest,  meaning you cannot have ANY errors.   

Since ETFreplay covers nearly 1000 securities, we took great care in building our processes -- and importantly, how you cross-check data.   Good thing for us is that modern databases (such as the most recently released SQL database our service provider runs on) were architected precisely to address the inherent problems in data management.    (databases have very rigid rules relative to something like a spreadsheet, which was created for the masses).  

As a sidenote, because it is frankly amazing ---- the use of Excel has been the source of two very high-profile finance-related errors in the past year ---  the London Whale incident at JP Morgan --- as well as the influential Reinhart-Rogoff economic paper used to justify the adoption of Austerity.    We maybe are less surprised that academics would makes  such an error --- but the JP Morgan case is amazing because of the mere fact that they would ever run such massive amounts of money without a more architecturally secure product than Excel.    Did nobody in the JP Morgan london office ever study the benefits of using a relational database management system (RDBMS)?    Running a database enables many levels of cross-checks and reporting that is impossible in a spreadsheet.   Caveat emptor. 

See Also:  Other Total Return Blog Posts

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S&P 500 Total Return For 2012: 16%

Jan 02, 2013 in S&P 500 | Total Return

There is always confusion over this so we'll just answer it here rather than responding to a lot of emails.

The S&P 500 is a total return index  (all indexes are total return indexes).  If you want to refer to the S&P 500 without dividends --- you call this the 'S&P Cash Index' (or just 'price return') --- that is not the S&P 500 though.    SPY is the ETF version of the S&P 500 index and varies very slightly due to the nuances of an actual traded investment product on a public excange that you trade during open market hours vs an index value that is determined based on official closing prices and isn't finalized until after the close.

You don't have to take our word for it though, this is from Standard and Poors itself (we continually run reports to check our returns vs key sources, we take data integrity seriously):


We have a free page so that you can understand ETF distributions as many charting services have architectural issues with displaying this correctly.    Note that the vast majority of technical services were built for short-term traders, not investment managers.   Dividends might not seem important to you -- but 2-3% a year compounds into a big number over a lifetime of investing.   Moreover, there are many ETFs that pay much higher than 3% -- you need to compare investments based on the total return series.

Total Return vs Price Return Free Page

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What Was Range of Available ETF Returns in 2011?

Jan 09, 2012 in Total Return

In this post, we have taken the largest 150 exchange trade products (assets) and grouped the returns into an overall distribution to summarize what was a range of generally available returns in 2011 (all are total return).   We wanted to see how we could summarize the year using a reasonably wide cross-section of widely-owned ETFs.    There are many different kinds of ETFs in the list – from bonds to stocks to MLPs, REITs, Preferreds, small cap, mid cap, country funds, regional funds, developed markets, emerging markets, cash, muni bonds, high-yield, mortgage bonds,  etc etc...  We thought this was an interesting way to do it since these are all liquid securities available to anyone.   While there are a number of useful ETFs that fall below the top 150 – this is a manageable high-level look: 

The median for the top 150 in 2011 was….  0.0%.   Yes,  Zero Point Zero.    So the distribution is easy enough to summarize, it is centered around zero where one-half were up and one-half were down.  
On the one hand, if you weren’t focused on a small set of niche ETFs -- longer-duration treasuries and/or U.S. utility stocks, there wasn’t a lot of opportunity to do better than the +10 to +15% range.   On the other hand, many of the more mainstream investor themes dropped more than -15% (emerging markets, gold miners, US financials, developed market international equities).

For a point of comparison, let's look at the 2010 distribution using the same scale:  

Note that for 2010, the median of this same group of 150 ETFs had a total return of +15.1% (the median ETF in 2010 was actually the S&P 500).   So the entire distribution shifts up very significantly --- note that many ETFs rose in excess of +20% in 2010 and only UNG lost more than -5%  (UNG was also the worst of the lot in 2011).   So this was a very positive year and there were plenty of places to achieve a fairly robust return without any real areas to lose money, everything essentailly went up with many rising a lot.

2011 was a year mostly to just stay out of trouble.    It wasn't an outright bad year, there just weren't that many places to really drive an entire portfolio strongly up.  While we all want to generate high absolute returns --- the fact is that we live in a world where you need to put it all in the context of what was actually available.    

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Total Returns And Footnotes

Jul 21, 2011 in Total Return

Total return is a concept that is surprisingly misunderstood.  We get emails asking why does our moving average not match Yahoo or Tradestation?   

Most Internet data sources and brokerage software platforms don't track total return -- yet total return is how all index returns are stated.  In 2010, the SPDR S&P 500 index fund (SPY) was not +12.8%, it was up 15.1%.  Vanguards investment grade bond fund (VCIT) was not +5.1% in 2010, it was +10.0% (and had some nice tactical swings throughout the year).   The difference was distributions (which come in 2 forms:  dividends and capital gains distributions).  

One common thing we see is for various people to compare their performance to the price-only +12.8% and then footnote it saying 'dividends excluded'?   To us, this is just as bad as mutual funds that claim the expense ratio is 1.2% and then footnote it saying you will be charged a 3% redemption fee if you sell the fund in first 5 years.   There are no hidden fees with ETFs -- no sales loads, no purchase or redemption fees, no 12-b-1 fees.   The 'A-class' 'B-class' 'C-Class' 'H-Class' 'I-class' mutual fund system is non-sensical in the ETF world --- there is only a single class of an ETF.     


Here is another one: the Vanguard 60-40 stock-bond balanced fund returned +20.1% for the 10 years ended June 30th, 2011 [1]

[1] excludes dividends


Well, a large part of owning a bond in the first place is the coupon.   As it turns out, that index fund (VBINX) was +59.7%  INCLUDING dividends.  So it is entirely disingenuous to compare to a number that is one-third of the actual index return. 



While this is all obvious to some -- it is clearly still not understood by many.

We created a free Comparison Tool to make it easy to view this concept as we feel the only REAL way to truly understand something fully is to interact with it through an application -- rather than just read about in a paper or on a blog. 

Try a few out.  Be aware that even if its not a large dividend payer, any capital gains distribution will also affect the return.    

Bond ETFs:














Sampling of ETFs With Distributions Made Today

Jun 01, 2011 in Total Return

When doing comparisons and analysis, it is obviously important to make sure that data is correct in the first place.    This means consistency.   Below are a sampling of 1-day performance for ETFs that had distributions today (June 1, 2011).  Note that TIP (iShares TIPS ETF) had a nearly 1% distribution today ($1.04 was taken out of the price and the cash will arrive in accounts that hold this security on the payable date:   June 7, 2011).




ETF Total Return vs Price Return Chart Review

Aug 17, 2010 in Total Return

Given the markets strong preference for yield this summer -- witness repeated new highs in Corporate Bond Indexes, Preferred Stock Indexes, Master Limited Partnership (MLP) Indexes, High-Yield Bonds, Emerging Market Bonds etc...  we wanted to update some charts to show how the difference between total return and price return works out:

Longer-Term Treasury Bonds (TLT):

Utility Stocks (XLU):

Consumer Staples (XLP):

High-Yield Bonds (HYG):


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