What is meant by exchange-traded funds?
ETFs or "exchange-traded funds" are exactly as the name implies: funds that trade on exchanges, generally tracking a specific index. When you invest in an ETF, you get a bundle of assets you can buy and sell during market hours—potentially lowering your risk and exposure, while helping to diversify your portfolio.
Exchange-traded funds (ETFs) are SEC-registered investment companies that offer investors a way to pool their money in a fund that invests in stocks, bonds, or other assets. In return, investors receive an interest in the fund. Most ETFs are professionally managed by SEC-registered investment advisers.
Most ETFs are designed to reproduce the performance of an index. So the securities that an ETF buys will be the same as those found in the index that it tracks. For example, certain ETFs track the S&P 500 or the Barclays Capital U.S. Aggregate Bond Index. They have invested in the securities in those indexes.
Passive, or index, ETFs generally track and aim to outperform a benchmark index. They provide access to many companies or investments in one trade, whereas individual stocks provide exposure to a single firm. As such, ETFs remove single-stock risk, or the risk inherent in being exposed to just one company.
Mutual funds are usually actively managed, although passively-managed index funds have become more popular. ETFs are usually passively managed and track a market index or sector sub-index. ETFs can be bought and sold just like stocks, while mutual funds can only be purchased at the end of each trading day.
- Higher Management Fees. Not all ETFs are passive. ...
- Less Control Over Investment Choices. When you invest in an ETF, you're buying a basket of stocks intended to align with the fund's objectives. ...
- May Not Beat Individual Stock Returns.
ETFs can contain all types of investments, including stocks, commodities, or bonds; some offer U.S.-only holdings, while others are international.
| Rank | Symbol | Fund Name |
|---|---|---|
| 1 | SPY | SPDR S&P 500 ETF Trust |
| 2 | IVV | iShares Core S&P 500 ETF |
| 3 | VOO | Vanguard S&P 500 ETF |
| 4 | VTI | Vanguard Total Stock Market ETF |
Because of their wide array of holdings, ETFs provide the benefits of diversification, including lower risk and less volatility, which often makes a fund safer to own than an individual stock. An ETF's return depends on what it's invested in.
| ETF | Assets under management | Expense ratio |
|---|---|---|
| Invesco QQQ Trust (ticker: QQQ) | $244 billion | 0.2% |
| VanEck Semiconductor ETF (SMH) | $14 billion | 0.35% |
| Consumer Discretionary Select Sector SPDR Fund (XLY) | $19 billion | 0.09% |
| Global X Uranium ETF (URA) | $3 billion | 0.69% |
Why is ETF not a good investment?
ETFs are subject to market fluctuation and the risks of their underlying investments. ETFs are subject to management fees and other expenses.
Stock-picking offers an advantage over exchange-traded funds (ETFs) when there is a wide dispersion of returns from the mean. Exchange-traded funds (ETFs) offer advantages over stocks when the return from stocks in the sector has a narrow dispersion around the mean.
Should you invest in ETFs? Since ETFs offer built-in diversification and don't require large amounts of capital in order to invest in a range of stocks, they are a good way to get started. You can trade them like stocks while also enjoying a diversified portfolio.
ETFs and index mutual funds tend to be generally more tax efficient than actively managed funds. And, in general, ETFs tend to be more tax efficient than index mutual funds. You want niche exposure. Specific ETFs focused on particular industries or commodities can give you exposure to market niches.
SPY was launched in January 1993 and was the very first ETF listed in the U.S.10. Index investing pioneer Vanguard's S&P 500 Index Fund was the first index mutual fund for individual investors.
In terms of safety, neither the mutual fund nor the ETF is safer than the other due to its structure. Safety is determined by what the fund itself owns. Stocks are usually riskier than bonds, and corporate bonds come with somewhat more risk than U.S. government bonds.
Liquidation of ETFs is strictly regulated; when an ETF closes, any remaining shareholders will receive a payout based on what they had invested in the ETF. Receiving an ETF payout can be a taxable event.
Every time you add a single country fund you add political and liquidity risk. 4 If you buy into a leveraged ETF you are amplifying how much you can lose if the investment crashes. 1 You can also easily mess up your asset allocation with each additional trade that you make, thus increasing your overall market risk.
The securities that underlie the funds are held by a custodian, not by Vanguard. Vanguard is paid by the funds to provide administration and other services. If Vanguard ever did go bankrupt, the funds would not be affected and would simply hire another firm to provide these services.
Most of Warren Buffett's portfolio through his holding company Berkshire Hathaway is comprised of individual stocks. He does own two ETFs, though, both of which are S&P 500 ETFs: the Vanguard S&P 500 ETF (VOO -0.06%) and the SPDR S&P 500 ETF Trust (SPY -0.13%).
Where does your money go when you buy an ETF?
An exchange-traded fund, or ETF, allows investors to buy many stocks or bonds at once. Investors buy shares of ETFs, and the money is used to invest according to a certain objective. For example, if you buy an S&P 500 ETF, your money will be invested in the 500 companies in that index.
ETFs are bought and sold just like stocks (through a brokerage house, either by phone or online), and their price can change from second to second. Mutual fund orders can be made during the day, but the actual trade doesn't occur until after the markets close.
The single biggest risk in ETFs is market risk.
Many funds and ETFs have exposure to giants in the tech sector. The top ETF of 2023 is iShares Expanded Tech Software Sector ETF (IGV), with a YTD return of 355.22%.
These are VanEck Vectors Semiconductor ETF SMH, Invesco NASDAQ 100 ETF QQQM, Communication Services Select Sector SPDR Fund XLC, Vanguard Mega Cap Growth ETF MGK, and Vanguard Consumer Discretionary ETF VCR. These funds are likely to continue outperforming should the existing trends prevail.
