Today, there are about 6,500 exchange-traded funds (ETFs) worldwide, holding assets worth $5.02 trillion. Since the recession a decade ago, more than 1,000 new ETFs have been launched, including about 200 in 2019. The latest ETFs have focused on new industries, such as bitcoin, eSports, space, new age commerce, and more. So, what are ETFs, and why are they popular among investors?
An exchange-traded fund is a collection of stocks, bonds, or commodities that trade on a stock exchange.
ETFs can hold dozens, hundreds, or thousands of stocks. They can either concentrate on one specific industry or tap into multiple sectors. Investors can use ETFs for income, wealth protection, or profit speculation.
There are six primary types of ETFs:
- Bond: ETFs would hold federal, state, and municipal government bonds and corporate notes.
- Commodity: Invest in commodities, from crude oil to gold to soybeans.
- Currency: Put money in foreign currencies, such as the British pound sterling, Canadian dollar, or Chinese yuan.
- Index: Track a stock index, like the S&P 500, FTSE 100, or Nikkei.
- Industry: Monitor an industry, like financial services, technology, or energy.
- Inverse: Bet against stocks, also known as shorting.
Now, let’s explore the pros and cons of ETF investing.
A key advantage of investing in an ETF is its diversification (variety of stocks). Instead of selecting individual stocks, you can buy an ETF that includes many different companies.
Typically, ETFs have lower expense fees than other financial products. ETFs still have expenses (administrative, management, and marketing costs), but they are usually lower.
ETFs also share the same benefits and features of stocks:
- Buy and sell at any time when an exchange is open.
- Place a short against an ETF (bet against it).
- Use buy limit (buy at a specified price) and sell order (sell at the desired price).
Some ETFs are known for their intraday price fluctuation – the stock’s price can rise or fall in a matter of moments. This makes it difficult to time your purchase or sale.
If you are interested in a niche ETF, then this is the time that you will pay higher costs to buy an ETF. These fees might prompt you to buy individual stocks instead.
A lot of ETFs do offer a dividend (money paid regularly to investors), but they are typically lower than owning individual stocks. This is because ETFs track a broader market, causing the average quarterly yield (return on your investment) to be less.
To Invest or Not to Invest?
The ETF market’s surge has slightly paused in recent months, mainly because of the uncertainty in global financial markets. ETFs contain many advantages and disadvantages, so it is important to equip yourself with the very basics of this investment method.