In 2024 the number of ASX delistings hit the high sixties, including high-profile exits such as CSR and Boral, which left the ASX in July after multi-billion dollar takeovers.

As a result, index-tracking ETFs must remain vigilant with their performance indicators, not only to track the winners and losers of the stock market, but also to watch for companies that have been removed from the index entirely.

While delisting companies is not a new trend, Global X investment strategist Mark Jockum highlighted the benefits of a “rules-based methodology” for index-tracking ETFs.

"As soon as companies get kicked out of an index, or if they delist, or some corporate action really, our ETF will essentially reflect what's going on," Jocum told InvestorDaily. "So we have a portfolio management team that deals with all of these announcements or corporate actions."

Jocum explained that many ETFs allocate their holdings based on size. This diversified approach helps cushion the impact when a holding, especially a smaller one, is delisted.

"The great thing about ETFs, especially index-based ETFs, is that you're going to continue to hold the winners, which are the companies that are growing in size, growing in earnings, growing in popularity," Jocum said.

“So it's almost like a Darwinian approach when it comes to investing; invest in the fittest that survive and get rid of those that cannot survive. ETFs, through the rebalancing process, simply make it easier for investors not to worry about delistings.”

Jockum added that companies usually give notice of their delisting, allowing ETF providers to adjust accordingly.

“If a company delists, it must notify the regulator and investors accordingly. And you have index providers who are quite clever in how they will construct the index. They will know when a company is demerged,” Jocum said.

“If it's a huge position ... they will be very aware of the impact it could have on the wider market. For example, instead of selling everything in one day, they can introduce it over several days, just to ensure that there is enough liquidity and there are no problems in the market.

"It's a testament to the transparency and liquidity of the ETF shell because it's able to make these changes with relatively little impact on the broader market."

Adam DeSanctis, Vanguard's Asia-Pacific head of ETF capital markets, reiterated that changes in index composition are rarely sudden.

"Changes to index composition will typically be made two to five business days prior to the index's introduction of anticipated corporate events," DeSanctis told InvestorDaily.

However, he agreed with Jocum that index funds benefit from improved diversification.

"One of the many benefits of owning an index fund is that it allows for diversification, reducing the effect of volatility in your portfolio," he said.

DeSanctis explained that Vanguard equity funds and ETFs tend to be "completely copied." This means that Vanguard owns each underlying stock and seeks to match the benchmark weights for all constituents, allowing for minor deviations and optimization.

"Similarly, we ensure that sector and industry constraints remain strict to avoid any deviation from benchmark tracking," he said, adding that the firm uses complex internal processes to comply.

"There are significant internal controls, proactive monitoring/warning and independent risk oversight throughout the portfolio management and basket creation process to ensure compliance against the benchmark."

This, DeSanctis noted, ensures that funds stay on course.

"Our funds and ETFs always closely monitor their respective benchmarks, through periods of calm and through periods of volatility."