What you need to know in investing in Exchange Traded Funds ETFs

Choosing the right investment product can be a cumbersome task. With various different options available to choose from, it is often an intimidating task for individuals to pick and choose the right option in accordance with their risk and return profile. From the plethora of equity market instruments, Exchange Traded Funds (ETFs) have recently spurred an interest in a lot of investors. But what are ETFs, and how do they work? Let’s find out.

Exchange Traded Funds (ETFs) can simply be defined as a basket of securities that trade on the Stock Exchange. Instead of one individual share, they comprise of different shares that are clubbed into one. ETF share prices fluctuate across the course of the day, as buying and selling takes place. Unlike mutual funds, they trade all day, and not once a day once the market closes (which is true of mutual funds). ETFs mostly contain different types of investments, which include stocks, commodities, or bonds. They are known to offer low expense ratios, in addition to fewer broker commissions as compared to buying the stocks individually.

Furthermore, it can be seen that an ETF is referred to as an exchange traded fund, because it is traded on the Stock Exchange. ETFs mostly trade through online brokers as well as traditional broker-dealers. It is purchased and sold via brokers registered with the Stock Exchange.

How do ETFs work?

There are numerous different types of ETFs that investors can choose from. They are categorized to suit the investor in accordance with the investment style, and the kind of returns that the investor required. Here are few of the most commonly traded ETFs:

Bond ETFs: This mainly includes government bonds, corporate bonds, as well as state and local bonds. The general risk associated with this ETF is generally low, and hence, it offers a lower interest too.
Industry ETFs: Industry ETFs mostly track a particular industry, like technology, banking, or the oil and gas sector.
Commodity ETFs: This ETF is directed towards commodities that include crude oil or gold.
Currency ETFs: Currency ETFs, as the name suggests, involves investment in different currencies, like the Euro or the Canadian Dollar.
Inverse ETFs: This particular ETF is about gains obtained from stock declines from shorting stocks. Shorting is defined as selling a stock, and repurchasing it at a lower price after the stock declines.

ETFs are mostly grouped stocks, which are used in terms of determining the best resources. In the same manner, it can also be seen as actively-managed ETFs. Actively Managed ETFs comprise of portfolio managers constantly buying and selling shares of the companies and changing the relevant holdings within the fund itself. Actively managed ETFs have a higher expense ratio as compared to passively managed ETFs.

Final Thoughts

In conclusion, when choosing which particular ETF to invest in, it is important for investors to consider how the fund is managed, the resulting expense ratio, as well as rate of return associated with the particular ETF.

Tell us your thoughts in the comment box, are there any other points you think we've missed and should have highlighted?