What Investment Funds and ETFs Are: Structure, Special-Asset Protection and How They Trade

What you will learn

• The roles of the fund company, the depositary and the investor in an investment fund.
• Why fund assets are a "special asset" (Sondervermögen) and what this does and does not protect.
• How net asset value (NAV) is calculated and how ETF units are created and redeemed.
• How to judge whether an ETF price on the exchange is fair, using the spread and the indicative NAV.

Explanation

An investment fund pools money from many investors and invests it according to fixed rules. Each investor owns units (Anteile) of the fund. Three parties matter:

• The management company (in Germany: Kapitalverwaltungsgesellschaft, KVG) makes or implements the investment decisions.
• The depositary (Verwahrstelle), an independent regulated bank, holds the securities and cash and checks that the rules are followed.
• The investors, who own the fund assets economically.

Most funds sold to private investors in the EU are UCITS funds (Undertakings for Collective Investment in Transferable Securities; German: OGAW). UCITS rules set diversification limits, liquidity requirements and investor information, such as the key information document (KID). Many ETFs sold in Germany are domiciled in Ireland or Luxembourg; they follow the same EU UCITS framework.

Special-asset protection. Under the German Investment Code (Kapitalanlagegesetzbuch, KAGB), fund assets form a Sondervermögen: they must be kept separate from the KVG's own assets and are not part of its insolvency estate. If the KVG fails, the right to manage the fund passes to the depositary, which either winds it up and pays out investors or transfers it to another management company. Two limits are essential:

• It protects against the failure of the fund company, not against falling prices. If the shares in the fund fall 30%, your units fall too.
• It has no upper limit, unlike the statutory deposit guarantee for bank accounts (up to €100,000 per customer per bank). But exchange-traded notes and commodities (ETN, ETC) and certificates are not funds: they are debt of the issuer, so you carry issuer risk (ETCs were discussed in the gold course).

Net asset value (NAV) is the value of one unit: (market value of all assets − liabilities) ÷ number of units. A traditional open-ended fund is bought and sold through the fund company once a day at NAV, often with a front-end load (Ausgabeaufschlag). An ETF (exchange-traded fund) is an open-ended fund whose units also trade on a stock exchange all day at market prices.

How does the ETF price stay close to NAV? Through two markets:

• Primary market: large institutions called authorised participants can create new units by delivering a basket of securities or cash to the fund, or redeem units in exchange for the basket.
• Secondary market: you buy and sell existing units on an exchange, usually with a market maker who quotes a bid (buy) and ask (sell) price.

If the ETF trades clearly above its fair value (a premium), an authorised participant can create units cheaply and sell them; below fair value (a discount), it can buy units and redeem them. This arbitrage keeps prices close. The exchange publishes an indicative NAV (iNAV) during trading as a live estimate of fair value. On Xetra the main session runs from 9:00 to 17:30; since December 2025 some brokers also offer extended Xetra hours. Check your broker's hours. Spreads are usually wider when the markets of the underlying shares are closed, because the market maker cannot hedge easily.

Worked example

Hypothetical example: a European equity ETF has these figures at the end of a day. Fees and taxes are excluded.

1. Securities at market value: €50,200,000. Cash: €300,000. Liabilities (for example accrued management fee): €100,000. Units outstanding: 500,000.
2. NAV = (€50,200,000 + €300,000 − €100,000) ÷ 500,000 = €50,400,000 ÷ 500,000 = €100.80 per unit.
3. The market maker quotes bid €100.75 and ask €100.90. Mid price = (€100.75 + €100.90) ÷ 2 = €100.825.
4. Premium of mid over NAV = €100.825 ÷ €100.80 − 1 ≈ 0.025%. That is tiny: the price is fair.
5. Spread = €0.15 ÷ €100.825 ≈ 0.15%. Buying at the ask and selling immediately at the bid would cost €0.15 per unit.

Common mistake

Practice activity

On paper: a fund holds securities worth €80.4 million and €0.5 million cash, has liabilities of €0.2 million and 1,000,000 units outstanding. On the exchange the bid is €80.60 and the ask is €80.90.

1. Calculate the NAV per unit.
2. Calculate the mid price and the premium or discount to NAV.
3. Calculate the spread in percent of the mid price. Is this spread high for a broad ETF?

Key takeaways

• A fund has a management company, an independent depositary and investors who own the units.
• Sondervermögen protects against the fund company's failure, not against market losses; ETNs, ETCs and certificates carry issuer risk.
• NAV = (assets − liabilities) ÷ units; creation and redemption by authorised participants keep ETF prices close to NAV.
• Check the spread and the iNAV before you trade, and prefer liquid trading hours.

Next step

Next, you will learn how the indices behind most ETFs are built and why a "world" index can still be concentrated.