If you’re exploring your investment basics, chances are you’ve come across ETFs. But what are they, and are they right for you? We’ve got a complete rundown.
How did you first learn about investing? ETFs have been on the market for around 30 years and are now considered a mainstream investment vehicle — but they were once the new kids on the block. ETFs have helped bring one of our most trusted long-term investment vehicles, the Mutual Fund, into the digital age. But what are they, exactly, and how can you get started? We break it all down for you.
What are ETFs?
ETF stands for Exchange-Traded Fund. ETFs allow investors to put their money into a grouping of stocks, commodities, currencies (or even crypto-currencies) and earn money from that particular sector of diversified stocks. Investors like ETFs because they can put their money into a category of stocks rather than a single stock, which lets you spread out your risk. (If one of the companies in the ETF you buy fails, there’s still a good chance some of the others will succeed!)
But wait… isn’t that what a mutual fund is?
The difference between mutual funds and ETFs is that mutual funds can only be bought and sold at the end of a trading day, at that day’s price. ETFs can be traded throughout the day (intraday) on the largest exchanges, through virtually all online brokerage accounts. ETFs also tend to have a lower fee structure than mutual funds.
According to Matt Collins, Head of ETFs at PGIM Investments, “The beauty of ETFs is that if someone wakes up tomorrow and says, ‘I want to invest in robotics or the S&P 500,’ they can do it in 10 seconds. They can buy this sort of pooled investment vehicle through their brokerage account. I think that is sort of the crux of an ETF. It allows people to invest as they wish, in almost any segment of the market, and it’s low cost and transparent.”
So, ETFs can be traded intraday… Is that a good thing?
This can be a good thing when there’s increased volatility in the markets, Collins says. Knowing that you can make a trade if there’s a drastic change in the direction of a sector (or the overall market) is reassuring to some investors.
But this can also be a bad thing. “Not everyone can resist the temptation to trade,” Collins says. “The founder of Vanguard is very big on this – some people maybe shouldn’t have the temptation to trade. And so mutual funds can also be good because they are a little less tempting for people, particularly in 401(k)s and things like that. There’s a niche for everyone, but sometimes the ability to trade isn’t the best thing for your money.”
Who are ETFs for?
Collins says ETFs have long been popular with institutional clients — but they also work for a new investor who was just given $100 for their 18th birthday. They’re used by — and good for — literally all stripes of investors. (AKA, everyone.)
Are ETFs regulated by the SEC?
Yep. “The process for launching an ETF is actually quite extensive,” Collins says. “The first stage is to set up a trust and that trust has to be approved by the SEC. It gives the parameters of how and what the trust may invest in. The trust then files to sell a product underneath that trust, and the SEC monitors the types of investments that can go to market. Then the final stage is approval from the stock exchanges, whether it’s the NYSE or NASDAQ or another. So you have the SEC and the exchange bodies overseeing that the ETF product is tradable.”
Are ETFs actively managed?
Traditionally, ETFs are more passively managed than mutual funds, but that’s changing. “Active ETFs are growing at a much higher rate than passive ETFs,” Collins says, “primarily because there were just a few active ETFs five years ago. I think what you’ll see over the next 10 to 20 years is a more evening out. But the good news is that the cost of active management is coming down.”
What is the main benefit of an ETF?
In a word: diversification, Collins says. “There are very few ETFs that are not widely diversified, even if they concentrate on a very narrow sector. The benefit is that you’re taking a lot of the risks and temptation away.”
Are all ETFs and all ETF investment managers created equal?
Most definitely not. “You have the blue bloods in the space like PGIM, Black Rock and JP Morgan,” Collins says. “Next you have Vanguard and the SPDR products. And then you have this third component –this ton of new start-ups. Some are good, some are awful. But we’re at the stage now where ETFs are offered by the vast majority of managers, young and old.”
How do you trade ETFs… And is it easy to buy and sell ETFs?
Absolutely, it’s easy, Collins says. “Almost anyone who knows how to use an iPhone, iPad, computer, anything, can find out the value of an ETF.”
If you don’t have a brokerage account, download an app and sign up for one. At E*Trade, for instance, ETFs are one of eight investment choices. Just click the link and you’ll get thousands of funds to choose from. You can see their history of performance, their Morningstar rating, current market price, the fund’s expense ratio, and so much more. After you do your research, you’ll pick the fund you want, put in the amount you want to spend, click the “buy” button, and wait for confirmation of your purchase — this usually comes within seconds, although if you’re just setting up your brokerage account for the very first time, it could be as much as 24 hours.
Also important to note for investors who are just getting started and are on a budget: Many funds will allow you to contribute a small amount to your portfolio each month so you can build an equity position without breaking your budget. (Kind of like that 401(k) that you’ll add money to over time!)
Got questions? We get it. Any brokerage, either online or in-person, has a number you can call to speak to a real person who can walk you through the process.
More from HerMoney:
- HerMoney Podcast Episode 303: Crypto 101
- HerMoney’s InvestingFixx
- A Beginner’s Guide To NFTs: What They Are, How To Invest, And More
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