What are ETFs?

ETF means “Exchange-traded fund” and they pool securities to give better access and coverage on different products to invest in.

ETF acts like a stock that you can buy and sell whenever you want. The difference is that when you buy 1 share of ETF you can invest in hundreds of companies all at once. Depends on the ETF and how many securities are in it.

Let’s take for example (IDVY) iShares Euro Dividend UCITS ETF. This ETF follows 30 companies with the biggest dividend yield in Eurozone. That means instead of spending time finding the best dividend payers in the EU you can simply buy this ETF and invest in the top 30 Euro dividend payers with one transaction. Or let’s say you want to invest in Chinese companies but finding the right ones can be difficult and risky. In order to cover a bigger part of the market and lower the risk, you can choose (FXC) iShares China Large Cap UCITS ETF and invest all of the biggest Chinese companies at once.

ETFs work best when you want to invest in a certain segment without doing too much legwork yourself. There are over 8500 different ETFs in the world to pick from. Segregated by themes or sectors or market cap or regions or any other aspect. ETFs are a good groundwork to build your investment portfolio on. They require less attention and compared to single stocks, ETFS are considered “safer“ investments. If you buy 1 stock and that stock falls then your investments are in red, but if you buy an ETF and one stock falls then there are other stocks that can move up during the same time period – therefore your risk is lower and success is not depending on one stock but rather on the segment.

Pros and cons of ETFs

Like any other financial product, there are certain advantages and disadvantages to ETFs. Let’s bring out the most important ones.

Advantages

•  ETFs, give you access to a wide selection of securities across all sectors. Quite often there might be companies included that you would never find by yourself.
• ETFs have usually a very low expense ratio and fewer broker commissions.
• With ETFs, you diversify your portfolio and therefore lower the overall risk
• There are quite targeted ETFs that let you invest into very narrow and certain sector.

Disadvantages

• Some ETFs are actively managed which means they might have higher fees
• It’s easy to choose very narrow ETFs and miss out on the portfolio diversification. Risk level stays high in that case.
• Even though you can buy and sell ETFs just like stocks, low liquidity might slow down transactions. Investors buy ETFs with long time horizon and don’t want to sell them without a very good reason.

Fun fact: The very first ETF was SPDR S&P 500 ETF (SPY) which tracks SP500 index and allows you to invest in to 500 biggest companies in the US.