9 Things You Should Know About ETFs
Post on: 16 Март, 2015 No Comment
Although exchange-traded funds (ETFs) have been around for over two decades, in recent years interest in them has increased. Assets in ETFs have more than tripled since 2008, to $1.8 trillion in May 2014, according to the Investment Company Institute, an investment fund trade group.
ETFs are exactly what their name suggestsfunds that trade on an exchange just like stocks. As with regular mutual funds, ETFs own baskets of stocks, bonds or other holdings. Both mutual funds and ETFs can take a passive approach to investing by tracking market indexes, and they each may have advantages for bond investors. But ETFs offer distinctive differences that set them apart from mutual funds, particularly in terms of tax-efficiency, costs and transparency about their holdings.
Consider these nine characteristics when determining whether ETFs might play a role in your portfolio. Merrill Edge Select ETFs, an upcoming enhancement to the available tools at Merrill Edge, will help simplify your ETF investing experience.
Merrill Edge Select ETFs, an upcoming offering, will help simplify your ETF investing experience.
- ETFs tend to have very low management expenses.
Most ETFs are index funds that aim to mimic the performance of market benchmarks. For example, SPY, the largest ETF, tracks Standard & Poor’s 500-stock index. Like those mutual funds that also mirror indexes, most ETFs avoid the cost of research and charge low fees as measured by a fund’s annual expense ratio. That’s in contrast to the many actively managed mutual funds that must bear the expense of researching companies for their portfolios. While many actively managed stock mutual funds have expense ratios of more than 1%, index mutual funds have much lower costs. ETFs tend to have the lowest expense ratios, with some charging less than 0.1%. 1
Because ETFs trade like stocks, brokerage trading commissions typically apply to ETF transactions. That’s not the case for no-load mutual funds that can be bought and sold without transaction costs. For investors who trade frequently or use dollar-cost averaging to make regular fund purchases, ETF trading costs add up and could make mutual funds a better option.
There are two ways ETF investors incur tax liabilities:
- through a tax on a gain from the sale of an ETF, which would be no different from a gain on a mutual fund sale; and through a capital gain that the fund distributes.
Point two is where an ETF and a mutual fund may differ, with ETFs distributing capital gains much less frequently than do comparable mutual funds.
Most ETFs are designed to track the performance of an index. Although the performance of an ETF can lag the performance of a similar actively managed mutual fund in certain types of markets, because most ETFs are passively managed, they can provide very competitive long-term results at a low cost. While index mutual funds can make the same claim, intraday liquidity and tax efficiency may give ETFs an edge.
ETFs trade throughout the day just like a stock. So in a volatile market, you could quickly sell or buy an ETF with the same flexibility available with stocks. Mutual funds are priced once daily and can be purchased only at the end of the trading day. But be aware that, also like stocks, thinly traded ETFs may be difficult to sell, which could result in a lower price that doesn’t reflect the value of a fund’s holdings.
Since ETFs report their holdings on a daily basis, investors have full transparency about their investments. This lets you know more about the details of your investments and could make you aware of possible risks, such as overexposure to certain market sectors or companies.
Holding a broad variety of investments can help diversify the risk of a portfolio. Buying just one ETF can give you a stake in hundreds of stocks or bonds. An international ETF, for example, could broaden your portfolio with stock holdings from around the world, while a bond ETF might span much of the investment-grade market. Mutual funds may give you the same type of diversification, but the advantages of ETFs mentioned above may make them a more attractive option for some investors.
For example ETFs have made it much more convenient to own precious metals such as gold, silver, platinum and palladium, because with an ETF investors don’t have to take physical delivery of the commodity.
The proliferation of ETFs has brought with it specialized funds that reach all corners of the financial markets. ETFs may enable you to invest according to:
- Market sectors such as energy or real estate Characteristics. for example, dividend-paying stocks Geography. with a regional or country focus
As these characteristics suggest, ETFs can play many roles in an investment portfolio.
- Broad ETFs might serve as core holdings More specialized funds may fill particular niches
- Investors have increasingly been using ETFs to provide complete portfolio solutions
Whether you use ETFs, mutual funds or individual stocks and bonds to build your portfolio, it is crucial to begin by taking the time to evaluate your goals and risk tolerance to come up with the right target asset allocation. Then you can consider whether ETFs meet your particular needs.
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