ETFs in practice: costs, replication, choice

Note: the figures in this lesson are illustrative. TER, spread, commissions, and fund availability differ between brokers and platforms — check specific values with your broker and in the fund documents.

ETFs in practice: where to start choosing

This lesson shows how to choose an ETF on the basis of a cost calculation rather than a name or a ranking from a website. You will translate TER and tracking difference into PLN (Polish złoty) at your position size, check replication, the spread, and the liquidity of the ticker itself, and finally record the decision in one table. The material is for people who already know what an ETF and a share are and want to compare funds in a repeatable way.

If you are just starting, read the lesson Stocks and ETFs from scratch first. It covers the difference between holding units and a contract for difference; here we do the calculation.

What an ETF costs: TER and tracking difference in zloty

Percentages on a product sheet are abstract until you convert them to your position. The order is fixed:

1. Set the position size in PLN. That is the number from which all costs are calculated.
2. Calculate TER in PLN: TER_cost_PLN = TER x position_value.
3. Calculate tracking difference: TD = index_return - ETF_return over the same period. That is the realised difference after all the fund’s fees.
4. Calculate the spread cost on a full round trip: spread_cost_PLN = spread x position_value.
5. Compare the one-off cost with the annual cost. You pay the spread on every transaction, while TER accrues every year — different units, so do not mix them in one column.
6. Record the assumptions, so that after a quarter you can see whether the fund still meets them.

Example (illustrative numbers). A position of 20,000 PLN, two ETFs on the same index: TER 0.07% and 0.40%. Annually that is 14 PLN and 80 PLN, a difference of 66 PLN. With a spread of 0.10%, a full round trip costs 20 PLN. The conclusion is not choose the cheaper one, but calculate how many years the position must last for the TER difference to exceed the one-off entry cost.

One thing is often confused: do not add TER and tracking difference together. TER states what the fund declares it will take, while TD shows what it actually took, already after the transaction costs inside the fund. TD is the superior measure. If you have no TD data, use TER as a lower approximation and record that assumption explicitly.

Physical and synthetic replication

Physical replication means the fund buys the index components or a representative sample of them. Synthetic replication relies on a swap contract with a counterparty, collateralised by a basket of assets. The difference is not limited to price:

For synthetic funds, check in the fund documents who the swap counterparty is and what the collateral is. That is public information, but it requires opening the documents rather than the price tab. The replication method is also described in the fund document; confirm it at the source, because versions of the same index differ.

Spread and liquidity of the ETF itself

The cost of an ETF is not only the fund’s fee. The second component is the spread on the ticker itself, and the third is the ability to enter and exit at a reasonable price. A large fund can have thin turnover on your exchange if the units are listed in several places.

Measure the spread in your trading window, exactly as with a single stock (Liquidity and spread on stocks). Record the median and the worst value from several sessions, because macro events scatter quotes exactly when you want to place an order. A limit order protects against the worst fill but does not guarantee execution — with thin turnover it may simply not be filled.

Accumulating or distributing, plus domicile and UCITS

The accumulating version reinvests dividends inside the fund, the distributing one pays them to the account. The choice depends on whether you want cash flow and on how you settle taxes — compare that for yourself instead of copying someone else’s ticker.

Domicile, that is, the country where the fund is registered, affects where the fund settles taxes and what documents you receive. The UCITS label refers to the European Union framework for funds and indicates compliance with certain requirements, not the quality of the strategy — confirm the details in the fund document. The rules for settling profits in a typical brokerage account are described in the lesson Capital gains tax and brokerage costs; that is material about mechanics, not tax advice.

The listing currency is yet another thing from the exposure currency. An ETF listed in EUR can hold American and Japanese companies, so a second layer of currency risk against the PLN is added. A comparison of a PLN account and a foreign one is described in the lesson Choosing a broker and formalities.

An ETF in a long-term portfolio and in a swing

The same fund has different hygiene depending on the goal:

Before you choose the swing row, recall the rules from the lesson Swing trading on stocks — the setup filter and position size are calculated identically. Regular contributions simplify the timing decision but do not remove transaction cost: a weekly contribution with a fixed minimum commission can eat a larger percentage of capital than a monthly one (check with your broker). If the portfolio consists of several ETFs, write the rebalancing schedule in advance — otherwise rebalancing becomes ad hoc trading, and correlations between funds do not disappear (Portfolio risk and correlations).

Traps in choosing an ETF

• A name instead of a benchmark. global or technology on the cover does not say what is actually inside or how large a share a few top holdings represent.
• Double currency risk. An ETF listed in EUR with exposure to companies from several continents is two currency layers, not one.
• A leveraged product in a long-term portfolio. Daily leverage resets every day, so in a sideways trend the result drifts away from what you expect.
• Skipped tracking difference. Two funds with similar TER can differ in real return after a few years.
• Confusing a CFD on an ETF with holding units. It is a contract, not a right to fund units — the holding cost is different and settlement looks different.

Comparing two ETFs: table to fill in

Complete it for the two funds you actually consider. One column, one decision.

When the cost calculation says do not buy

1. When you cannot name the benchmark. If you cannot say what the fund tracks and how it is built, you have nothing to compare.
2. When the spread eats the entire expected profit from a position held for a few days. At that horizon the round-trip cost counts exactly as in a swing — if it is too large, this ETF is not a trading instrument.
3. When the annual cost is unknown. Missing TER and TD data means you are comparing names, not funds. Establish the values at the source or postpone the decision.
4. When you take a leveraged product for a horizon longer than a day. The construction is not designed for that, and the holding cost is not visible at first glance.

Measurable exercise

Take two ETFs on the same or a very similar index. Complete the comparison table at an assumed position, for example 20,000 PLN (an illustrative figure). Calculate the annual TER cost in PLN, check the available tracking difference, measure the spread in your trading window, and record after how many years the cost difference exceeds the entry cost. Finally, add one sentence: which fund you choose for the portfolio and which — if any — for short-term trading. Record the conclusion in your playbook, together with the date, so you can check it after a quarter.

Common questions

Accumulating or distributing?

Accumulating reinvests dividends inside the fund, distributing pays them to the account. The choice depends on your cash goal and on how you settle taxes — compare both variants for yourself instead of copying someone else's ticker.

Is a low TER enough?

No. Check tracking difference, spread, liquidity, and whether the benchmark is what you are looking for. A cheap TER with a wide spread is sometimes expensive to trade, and a difference in tracking difference can exceed the difference in the fee itself.

Is a leveraged ETF suitable for a swing?

Usually not as a position held for weeks. Daily-leverage products reset daily, so in a sideways trend the result deviates from the expected one. Use them only with a conscious horizon and position size — or avoid them.

Why calculate TER and tracking difference in PLN rather than in percent?

Because a percentage does not say what you actually pay, while PLN on your position lets you set the fund's cost against the cost of spread and commission. Only then do you see whether the annual difference between two ETFs is larger than the one-off entry cost. The same percentage means something different on a 2,000 PLN position and on a 200,000 PLN one.