If your investment portfolio consists of a combination of stocks, bonds and mutual funds, you are off to a good start. But if you haven’t already looked into them yet, you may want to consider adding Exchange Traded Funds (ETFs) to your portfolio mix. ETFs can provide you an investment with the flexibility, ease, and liquidity of stock trading, but they also share some of the benefits of traditional index fund investing. Here we will take a look at some of the attributes of these increasingly popular investments.
An ETF is a basket of securities, typically designed to replicate the performance of an index of some kind, for example a stock index such as the S&P 500 or the Dow Jones Industrial Average. As with stocks, the prices of ETFs change continuously during the day. This is because they are listed on an exchange like stocks and can be traded intra-day at a price set by the market. ETFs can hold shares in hundreds, sometimes even thousands of companies, typically grouped together under a single investment theme, such as real estate or alternative energy, so they are a good tool for portfolio diversification.
Affordable with Low Expenses
Small investors don’t need thousands of dollars to buy into ETFs. Although their market prices change constantly, ETFs have no minimum investment requirements (although the investor must buy whole shares rather than investing a set dollar amount) and they do not charge any fees for early withdrawals. Additionally, their annual operating costs can be relatively low, so they can be an affordable investment option. Keep in mind that the transaction costs of frequent trading can offset the benefits of low expense ratios.
ETFs tend to generate fewer capital gains than other types of securities due to low turnover of their underlying securities. Also, because they are traded on an exchange, they are not required to sell securities to meet investor cash redemptions. It is important to keep in mind that you will generate a taxable event if you sell the ETF shares, but during the time you hold them you won’t be subject to some of the same tax consequences as other types of investments.
Holdings Are Transparent
The holdings within an ETF will be the same or very close to the underlying index it is tracking. ETFs also disclose their holdings on a daily basis in order to facilitate the creation/redemption process. As a result of this open structure, you’ll always have a clear picture of exactly what you’re invested in so you can keep track of how your ETF holdings fit into your overall investment picture.
Exchange traded funds clearly have many advantages that could benefit your portfolio. Given their low expense ratios and tax-efficient nature, ETFs are an ideal choice for investors who want long-term, diversified equity or fixed-income exposure. ETFs offer investors a wide-array of investment opportunities in different areas as well, as investors can choose from ETFs targeted towards large-cap, mid-cap, small-cap, growth, value, fixed-income and even foreign indices. Keep in mind, your investment return and principal value will fluctuate. You may receive more or less than your original investment when you redeem your shares. For more information, contact a financial consultant to find out if ETFs may be a good addition to your portfolio.
This article was provided by Christopher L. Facka, MBA, CFP of A.G. Edwards & Sons, Inc. in Marco Island, Member SIPC. Chris can be contacted at 642-6000.