What is an Exchange Traded Funds?
Exchange-traded funds are one of the most important and valuable products created for individual investors in recent years.
Like any other securities (Mutual Funds, Shares, and Bonds, etc) ETF (Exchange Traded Fund) is also a type of securities that are listed on stock exchanges. Index ETFs are created by institutional investors swapping shares in an index basket, for units in the fund.
In also addition, an exchange-traded fund is marketable security, meaning it has an associated price that allows it to be easily bought and sold.
ETFs are designed to track the value of an asset. whether it a commodity like gold or a basket of stocks such as the S&P 500 they trade at market-determined prices that usually differ from that asset.
Types of Exchange Traded Funds (ETFs)
- Bonds ETFs: It might be including government bonds, corporate bonds, municipal bonds, treasury bonds, and international bonds, etc. Unlike any individual bonds, bond ETFs don’t have a maturity date, so the most common use for them is to generate regular cash payments to the investor.
- Industry ETF: It tracks a particular industry such as oil, technology, banking, pharmaceuticals, and gas sector.
- Commodity ETF: Commodities are raw goods that can be bought or sold, such as gold, coffee, corn, and crude oil. Thus, it designed to tracks commodities like above.
- Inverse ETF: It tries to earn profits from stock declines by shorting stocks.
- Foreign market ETFs: It designed to track non-U.S. markets.
- Currency ETFs: It invests in foreign currencies such as the Euro or Canadian dollar.
How do Exchange Traded Funds (ETFs) Work?
The share price of an ETF depends on the costs of the underlying assets present in the pool of resources.
If the price of one or more assets increases, the share price of the ETF increases proportionately, and vice-versa.
They can be actively or passively managed, as per company norms by the portfolio manager.
Another side a Passively managed ETFs, follow the trends of specific market indices, only investing in those companies listed on the rising charts.
Advantages and Disadvantages of Exchange Traded Funds (ETFs)
Advantages of Exchange Traded Funds (ETFs)
- Mutual funds, in contrast, settle after the market close. So, the trading in ETF can be done at any time.
- There is no sales load, but brokerage commissions do apply.
- An Investor has better control over when they pay capital gains tax.
- Investors can place a variety of types of orders (limit orders, stop-loss orders, buy on margin) which are not possible with mutual funds.
Disadvantages of Exchange Traded Funds (ETFs)
- If an investor invests small amounts frequently, there may be lower-cost alternatives investing directly with a fund company in a no-load fund.
- ETFs generally track their underlying index fairly well, technical issues can create discrepancies.
- ETF sales are not settled for 2 days following a transaction, that means as the seller, investor’s funds from an ETF sale are not technically available to reinvest for 2 days.