What is an ETF?
An exchange-traded fund (ETF) is a basket of different types of investments pooled together to form a single entity. These funds are traded on major stock exchanges.
ETFs track an underlying index which means an entire category of securities are invested in a broad universe, i.e. a passive way of investing. ETFs can be made up of basically anything from the tracking the broad market, to gold, or to a specific sector like the technology industry.
Why Invest in ETFs?
- Diversification: There are hundreds of different ETFs that can fit in any investor’s portfolio.ETFs are a great way to add diversification to an existing portfolio.
- Lower Fees: Compared to Mutual Funds who usually charge fees ranging from 2% to over 4%, ETFs typically charge between 0% to 1.25%.
- Reduced Risks: ETFs are made up of a pool of investments with varying risks which allows each individual ETF to be diversified which is typically associated with lower risk.
- Flexibility: ETFs can be traded intraday which means they can be bought or sold on the market during regular trading hours.
- Tax-Efficient: Less capital gains and frequent trading activities create a more tax advantageous investment.
Benefits of an ETF
ETFs are a great way to maintain a diversified portfolio. There are hundreds of different ETFs out there such as bonds, commodities, currencies, companies, etc.. Not only do you have a wide variety of options, each ETF holds a number of different stocks or other securities. Instead of holding only one security, you have the opportunity to invest in a pool of them so if one goes down, another will help smooth it out.
Compared to Mutual Funds that usually charge fees ranging from 2% to over 4%, ETFs charge between 0% to 1.25%. By eliminating the role of an active fund manager and lower trading costs, the cost of ETFs decrease significantly. Lower fees lead to greater saving potentials for investors and ultimately greater long-term growth.
ETFs can be traded intraday which means they can be bought or sold on the market during regular business hours. This allows investors to be able to go long or short and bet for or against the prices. If you believe the price of an ETF will rise, you can buy it at the beginning of the day, wait for the price to rise, and sell it for a profit at the end of the day.
The capital gains taxes on ETFs are typically less vs. mutual funds. As they typically track an index, most ETFs have very little turnover.