Difference in accumulating ETFs and distributing ETFs
Have you ever come across an Exchange Traded Fund (ETF) that has “ACC” or “DST” at the end of its name
If you have ever looked at Exchange-Traded Funds (ETFs), you might have noticed an acronym at the end of their title. It can be “ACC”, which stands for “accumulating,” or “DST”, which means “distributing.” I’ll explain the differences in this article.
What is an ETF?
For those who do not know what an Exchange-Traded Fund (ETF) is here is a short recap. An ETF is a type of investment fund that typically mirrors the performance of a particular index, commodity, bond, or an assortment of different financial assets. It can be envisioned as a collection of various securities bundled together. ETFs vary from other investment funds because they are traded on stock exchanges, much like individual stocks, and as such offer higher liquidity. The performance of an ETF is tied to the fluctuations in the value of the assets it contains. For instance, an ETF designed to track the S&P 500 index would contain shares that represent the firms listed in that index. Due to the incorporation of various underlying assets, an ETF allows investors to effectively diversify their investment portfolio at a comparatively low cost.
What is an accumulating ETF?
An accumulating Exchange-Traded Fund is a specific variety of ETF where the fund manager reinvests dividends earned from the ETF's underlying assets back into the fund. This reinvestment procedure is done without any extra charges to the investor. Consequently, the net asset value of the ETF rises. Due to the characteristic of reinvesting dividends, an accumulating ETF is often referred to as a reinvesting ETF. Reinvesting dividends leads to a compounding effect, which is also known as the return-on-return effect. This increases the asset value for an investor over time.
How does an accumulating ETF work?
An example to understand how an accumulating ETF works.
First, it is important to understand the concepts of Net Value (NV) and Net Asset Value (NAV). NV is the total value. NAV is the NV divided by the number of shares issued.
For example:
An ETF has an NV of €500,000
There are 20,000 shares outstanding, making the NAV €25
The ETF consists of
1000 shares of Company Z worth $500 per share
€0 in cash
You purchased 200 ETFs for a total value of $5,000
Suppose company Z pays a dividend of $4 per share. Since the ETF has 1000 shares of Company Z, the fund now has $4,000 in cash thanks to the dividend, bringing the NV to $504,000 and the NAV to $25.20. The value of your portfolio is now €5,040.
Its compounding effect occurs when the fund manager uses the €4,000 in cash to buy new shares. When issuing a new round of dividends, the NV, NAV, and value of your portfolio increase even more without you having to do anything.
What is a distributing ETF?
In contrast to accumulating ETFs, distributing ETFs are designed to provide dividends to their investors. As a result, you gain the advantage of receiving cash payments that can be utilized according to your personal financial strategies or choices.
How does a distributing ETF work?
If we take the same scenario as above, but now the dividend will be paid to you instead of being reinvested by the fund manager. You will also possess a portfolio valued at $5,040, now consisting of $5,000 invested in ETF shares and $40 in cash instead of $5,040 invested in the Accumulating ETF.
In both scenarios, regardless of whether you chose an accumulating or distributing Exchange-Traded Fund, the overall value of the investment portfolio amounted to $5,040. However, it is crucial to understand that if you do not reinvest the dividends from the distributing ETF, you will miss out on the compounding effect on your investment returns. If you decide to reinvest the dividends from the distributing ETF to purchase additional shares of that same ETF, the outcome might resemble that of the accumulating ETF, provided you disregard any additional expenses such as transaction fees.
Which choice should you make?
Whether to invest in accumulating or distributing ETFs should depend on your individual financial goals and needs. If you desire your investments to increase in value over time without needing ongoing oversight or active management, a growth-oriented ACC ETF will be the best choice for you. On the other hand, if you aim to create a consistent stream of passive income, a distributing ETF will suit your investment portfolio more effectively.
Some warnings
Tax rules are complex and can significantly affect the success of your investment. These can vary significantly depending on your country of residence. It is therefore essential to understand the different tax implications for accumulating and distributing ETFs in your country.
Furthermore, it is important to keep in mind that receiving dividends from ETFs is not assured. The choice to maintain, reduce, or halt dividend payments may be affected by economic factors, corporate performance, and strategic choices.