ETFs (exchange traded funds): a brief introduction

Exchange-traded funds (ETFs) are a type of financial instrument that have attracted the attention of many investors because of their distinct advantages over mutual funds. If you find the tasks of analyzing and selecting stocks to be a little overwhelming, exchange-traded funds (ETFs) may be the right choice for you.

What Exactly Is an ETF?

Consider an exchange-traded fund to be a mutual fund that trades on the stock market like a stock. An exchange-traded fund (ETF) is similar to a mutual fund in that it represents a basket of securities (such as stocks) that correspond to an index such as the S&P 500 or the Barclays Capital U.S. Aggregate Bond Index, among others.

 

An ETF, on the other hand, is not a mutual fund; rather, it trades on the stock exchange like any other company. In contrast to a mutual fund, whose net asset value (NAV) is calculated at the end of each trading day, the price of an exchange-traded fund (ETF) fluctuates throughout the day in response to changes in supply and demand. Important to remember is that while exchange-traded funds (ETFs) attempt to replicate the return on indexes, there is no guarantee that they will do so exactly. It is not uncommon to see a small difference between the year-end return of the actual index and the year-end return of an ETF.

 

An exchange-traded fund (ETF) combines the diversification of a mutual fund with the flexibility of an individual stock. You can short sell ETFs and buy them on margin, and you can purchase as little as one share of an ETF because they trade like stocks (if desired). Yet another advantage of exchange-traded funds is that their expense ratios are typically lower than those of the average mutual fund. For example, the SPDR S&P 500 ETF (SPY) has a low expense ratio of 0.0945 percent as of Oct. 12, 2021, compared to the S&P 500 index. 1 When you buy and sell ETFs, you pay the same commission to your broker as you would on any other type of trade.

 

Various exchange-traded funds (ETFs)

Because of their SPDR ticker symbol, the S&P 500 index fund (also known as “spiders”) was the first exchange-traded fund to trade on the American Stock Exchange (AMEX). It began trading on the AMEX in 1993.

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2 The open market currently contains thousands of ETFs that track a diverse range of indexes including sector-specific, asset type-specific, country-specific, and broad-market indexes, among others.

 

You can find an exchange-traded fund (ETF) for just about any sector of the market these days. You might consider the iShares MSCI Austrian Index fund, for example, if you’re interested in getting exposure to European stocks through the Austrian market rather than the stock market in general (EWO).

 

Some of the more popular exchange-traded funds (ETFs) have nicknames such as cubes (QQQ) and diamonds (DIA) (DIAs). Many exchange-traded funds (ETFs) are passively managed, allowing investors to save significantly on management fees.

 

Index of the Nasdaq-100

As a result of this ETF’s investment in the Nasdaq-100 Index, which is comprised of the 100 largest and most actively traded non-financial domestic and international companies listed on the Nasdaq, the index’s performance is tracked. QQQ, also known as “cubes,” provides investors with broad exposure to the technology sector. Because it reduces the risk associated with investing in individual stocks, the QQQ is an excellent vehicle for making long-term investments in the technology industry’s long-term prospects.

When there is a lot of volatility in the markets, the diversification it provides can be a huge advantage. If one tech company’s earnings fall short of projections, it will almost certainly be hit hard, but owning a piece of a hundred other companies can help to mitigate the impact.

 

SPDRs

These investment instruments, which are commonly referred to as “spiders,” bundle the benchmark S&P 500 index and give you ownership in the index. Consider the time and money it would take to attempt to purchase each and every one of the 500 stocks in the S&P 500. Individual investors can own the stocks that comprise the index in a cost-effective manner through the use of SPDRs.

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Another useful feature of SPDRs is that they can be used to separate different sectors of the S&P 500 stocks and sell them as separate exchange-traded funds (ETFs) – there are literally dozens of these types of ETFs available. In the technology select sector index, for example, there are approximately 70 different holdings that cover products developed by companies such as defense manufacturers, telecommunications equipment manufacturers, hardware manufacturers, software manufacturers, and semiconductor manufacturers. This exchange-traded fund (ETF) trades on the NYSE ARCA under the symbol XLK.3

 

iShares and Vanguard are two of the most popular mutual funds.

ETFs under the iShares brand are offered by BlackRock. By 2020, there will be over 800 iShares ETFs in operation around the world, with more than 2 trillion dollars in assets under management. 4 For example, BlackRock has created a number of iShares that track many of the world’s major indexes, including the Nasdaq, the NYSE, the Dow Jones Industrial Average, and the Standard and Poor’s 500 Index. All of these specific exchange-traded funds (ETFs) trade on the major stock exchanges in the United States, just like regular stocks.

 

Just like iShares are BlackRock’s brand of ETFs, Vanguard ETFs are Vanguard’s brand of the financial instrument. Vanguard also offers hundreds of exchange-traded funds (ETFs) that invest in a variety of different sectors of the market, such as the financial, healthcare, and utility sectors.

 

Identifying and Using Resources

Investment in natural resources, such as the United States Natural Gas Fund, can be made possible through the use of funds (UNG). In the event of a loss, these investments provide a replication of natural gas prices after expenses, and they attempt to track natural gas prices by purchasing natural gas futures contracts in the coming months. 5 Before investing in any of the funds, you should keep an eye on the total expense ratio, just as you would with any other.

 

Focus on the Emerging Markets

This investment seeks to replicate the performance of the iShares MSCI Emerging Markets Index, which is managed by BlackRock Institutional Trust (EEM).

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6 This ETF was established to serve as an equity benchmark for the performance of international securities. It is possible that this ETF will be of interest to you if you are looking to gain some international exposure, specifically to emerging markets.

 

Movers who operate in the inverse or opposite direction

Unlike the indexes they track, not all exchange-traded funds (ETFs) are designed to move in the same direction or even in the same amount as the index they track. Inverse exchange-traded funds (ETFs) have prices that rise when the markets fall and vice versa. Taking the example of the Direxion Daily Financial Bear 3x Shares (FAZ), which is a triple bear fund: With the help of derivatives and other forms of leverage, it attempts to outperform the Russell 1000 Financial Services Index by 300 percent. 7 This fund gained popularity during the financial crisis of 2008 and 2009, when financial stocks were under pressure to fall in value.

 

DIAMONDs

The SPDR® Dow Jones® Industrial Average ETF shares track the performance of the Dow Jones Industrial Average index.

8 The fund is organized in the form of a unit investment trust. The ticker symbol for the Dow ETF is DIA, which stands for Dow Industrial Average, and it is from this symbol that the fund gets its nickname, “diamonds.” It is traded on the New York Stock Exchange (NYSE ARCA).

 

What’s the bottom line?

One compelling reason to consider exchange-traded funds (ETFs) is that they simplify index and sector investing in a straightforward and understandable manner. If you have a feeling that a turnaround is on the horizon, go long. If, on the other hand, you believe that ominous clouds will hang over the market for some time, you may want to consider going short.

 

With their combination of instant diversification, low cost, and flexibility, exchange-traded funds (ETFs) are one of the most useful and appealing pieces of financial engineering to have emerged in recent history. ETF investments are available through a number of different brokers.

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