ETF Investments – What You Need To Know

Diversification is extremely important when developing or maintaining an investment portfolio. Typically, people have a mix of stocks, bonds and mutual funds when planning for their future, but now there is another product to add to the list of possibilities, etf investments.

Exchange traded funds (etfs) were introduced in 1993 in the United States and 1999 in Europe. They are catching on very slowly, with only $1 invested in etfs for every $12 in mutual fund purchases in the United States. The sluggish progress might be accredited to the fact that few people understand how they work.

Similar to mutual funds, they are comprised of a variety of assets that are administered by a broker, only etf investing is less costly than investing in mutual funds. This is partly because many mutual funds have additional fees, such as short term trading fees, front- and back-end loads and redemption fees, and partly because the expense ratio of etfs is less than that of mutual funds.

There are tax advantages with an etf investment as well. Capital gains on mutual funds sales are taxable in the United States and are not offset by realized losses. This means that even if the portfolio manager is just selling one asset to purchase another, if the asset being sold is worth more at the time it was sold than when it was bought than the mutual fund owner is liable to pay taxes on the entire profit, regardless of how much was paid for the newly purchased asset. This is not the case with etfs.

Unlike open-end mutual funds, exchange traded funds can be bought or sold at anytime throughout the trading day. This is an important feature because the prices of etfs fluxuate during the day, and by trading on the stock exchange the investors can take advantage of the best buying and selling prices. They are also able to sell short or buy on margin.

The types of exchange traded funds vary depending on the assets contained therein. Index funds attempt to mimic a specific stock market index like the Standard & Poor’s 500, while commodities funds contain precious metals and futures, like gold and silver. Bond funds and currency funds are available, as are actively managed and leveraged etfs.

Exchange traded funds combine some of the best features of stocks with some of the best features of mutual funds to create a hybrid investment product. They cost less than mutual funds, offer tax efficiency and trade like stocks, which make etf investments important potential additions to any portfolio.