The concept of diversifying investments is not something new for most investors. This should be a piece of cake on paper, but it's easier said than done. Exchange-traded funds (ETFs) offer a quick route to diversify in a single investment product. Let's take a closer look.
What are ETFs and How Do They Work?
An ETF is a basket of investment securities that can be traded like a single stock. Most ETFs are designed to track an index, such as FTSE 100 and S&P 500. Some are structured to track a specific commodity, sector, region, or other asset classes.
An ETF can consist of real estate, stocks, muni bonds, and government bonds - to name a few examples. ETFs are similar to mutual funds in that they pool money from investors into an array of assets. However, unlike the latter, ETFs can be traded like shares on the stock exchange. Unlike mutual funds traded at end-of-day pricing, ETFs trade throughout the day like stocks.
What are the Different Types of ETFs?
Bond and Fixed-Interest Product ETFs
These ETFs hold various types of fixed-interest products. That may include government, corporate, and municipal bonds. A good example is the UK Gilt ETF, which holds government bonds. Meanwhile, High Yield Bond ETF holds higher-risk corporate bonds.
Equity or Stock ETFs
As the name suggests, an equity ETF tracks stock indexes. It could focus on a large index, a specific sector like mining, or a targeted region. For instance, the FTSE 100 ETF tracks the top 100 UK companies.
Currency ETFs
These ETFs hold the currency itself, a currency derivative or a hybrid. For example, the US Dollar ETF follows the USD currency. Meanwhile, the Emerging Markets Currency ETF tracks developing currencies.
Commodity ETFs
They invest in physical goods or use derivatives of the commodities. Agriculture ETF tracks crop futures, for example.
Sustainable ETFs
Only hold stocks, bonds, or shares of companies meeting ESG criteria. Take the Clean Energy ETF, for instance. It only includes solar, wind, and other renewable companies.
Advantages of ETFs
Diversification
Single ETF provides instant exposure across a basket of assets.
Accessibility
It allows you to invest in assets and markets that are otherwise difficult to access directly.
Low costs
Passive ETFs have lower fees than actively managed mutual funds.
Trading flexibility
It can be bought and sold anytime during market hours, like stocks.
Drawbacks of ETFs
Trading costs
Transaction fees for frequent trading can add up.
Liquidity issues
Thinly traded ETFs may have higher trading costs.
ETFs still carry risk
While diversifying, all investments carry some capital risk.
ETFs can be a shortcut to a diversified and well-balanced portfolio. Speak to advisors at International Wealth Ventures about incorporating ETFs into your investment strategy based on your goals and risk tolerance. Our team can evaluate efficient ETF solutions for your portfolio.