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What are ETFs?
Exchange-traded funds, or ETFs, are an ideal investment option for many types of investors. ETFs allow investors to access a basket of multiple investments in a simple, convenient, low-cost way. As of early 2018, there was over $5 trillion invested in ETFs globally.
The ETF market is considered to be very mature (once a market qualifies as “mature,” based on characteristics like consistency and history, it’s believed to have the potential to offer investors stability and steady returns). There are ETFs that track all major asset classes (e.g., stocks and bonds), certain stock market sectors (e.g., technology and healthcare), specific geographies (e.g., Europe and emerging markets), investment styles (e.g., value or growth stocks), and more.
How do ETFs compare to mutual funds?
Flexibility: ETFs are unique in that, as their name suggests, they are traded on exchanges, such as the New York Stock Exchange or NASDAQ. This means that you can buy and sell ETFs just as you would a stock, making them highly liquid. This gives investors more control over their portfolio holdings.
Lower fees: Many ETFs have lower investment minimums, making it easy to start investing with a small amount. Also, ETF fees are typically fractions of 1 percent, which is generally much lower than mutual fund fees. Mutual funds charge shareholders for most everything that goes on inside the fund, such as transaction fees, distribution charges, and transfer-agent costs. In addition, they pass along their capital gains tax bill on an annual basis.
Active and passive options: Similar to mutual funds, there are active and passive ETFs. Most ETFs are passive, meaning they follow an index, such as the S&P 500. Following an index means that they’re intended to have the same or similar securities (investment holdings) at similar weightings (percentages) as the index and should have similar returns (gains). On the other hand, an actively managed ETF is run by a fund manager who adapts the fund to changing market conditions, which often results in higher fees (a higher expense ratio) as more frequent trading occurs in the fund.
ETFs are powerful building blocks for your portfolio
By using ETFs that track indexes, investors can easily gain exposure to a broad area of the market. For many investors, low cost and high convenience are reasons that ETFs have become one of the basic building blocks of a diversified investment portfolio.