Exchange-traded funds, or ETFs, are an easy way to begin investing. ETFs are fairly simple to understand and can generate impressive returns without much expense or effort. An exchange-traded fund, or ETF, allows investors to buy many stocks or bonds at once. Investors buy shares of ETFs, and the money is used to invest according to a certain objective. One common question is how ETFs differ from mutual funds since the basic principle is the same. The key difference between these two types of investment vehicles is how you buy and sell them.
Mutual funds are priced once per day, and you typically invest a set dollar amount. Mutual funds can be purchased through a brokerage or directly from the issuer, but the key point is that the transaction is not instantaneous. Instead of investing a set dollar amount, you choose how many shares you want to purchase.
Because they trade like stocks, ETF prices continuously fluctuate throughout the trading day, and you can buy shares of ETFs whenever the stock market is open. Before we get any further, there are a few concepts that are important to know before you buy your first ETFs. If you buy ETFs in a standard brokerage account not an IRA , you should know that they could result in taxable income. Any gains you make from selling an ETF will be taxed according to capital gains tax rules, and any dividends you receive will likely be taxable as well.
In a traditional IRA, money in the account is only considered taxable income after it is withdrawn, while Roth IRA investments aren't taxable at all in most cases. Stocks are investments in a company's future success. When you invest in a company's stock, you profit along with them. Just as borrowing money is a part of life for most people, companies and municipalities also borrow money by using bonds.
These are relatively steady investing vehicles, and are often good fits for investors who prefer being cautious. For beginners, passive index funds are generally the best way to go. You might notice that this list is heavy on Vanguard and Schwab. Newer investors tend to have a bad habit of checking their portfolios far too often, and making emotional, knee-jerk reactions to major market moves.
In fact, the average fund investor significantly underperforms the market over time, and over-trading is the main reason. An ETF's expense ratio indicates how much of your investment in a fund will be deducted annually as fees. A fund's expense ratio equals the fund's operating expenses divided by the average assets of the fund. Why do we invest this way?
Learn More. Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of Discounted offers are only available to new members. Calculated by Time-Weighted Return since Volatility profiles based on trailing-three-year calculations of the standard deviation of service investment returns.
Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services. Premium Services. Stock Advisor. View Our Services. Our Purpose:. Latest Stock Picks. ETFs add a second layer of tax efficiency to index funds. Because ETFs are traded on an exchange, when individuals want to sell their shares, they're selling to another buyer. The other ETF shareholders aren't impacted at all by the event.
On the other hand, mutual fund investors redeem shares directly with the mutual fund company, which pays out cash. Sometimes the fund manager will have to raise cash by selling shares of the underlying assets, which can result in a taxable event. As mentioned above, there are all sorts of ETFs investors can buy, sell, and trade however they see fit. For most investors, the following list of options should serve your needs. While it might be the original, it's not necessarily the best.
It carries a higher expense ratio than some of its competitors. A Russell index ETF The Russell index takes the bottom 2, stocks from the Russell index by market capitalization, or the market value of a company's outstanding shares. Small-cap companies are generally smaller with more room to grow earnings and thus produce better stock returns , but are generally riskier than big well-known companies. Other large-cap stock indexes The Nasdaq is a list of the largest equities listed on the Nasdaq stock market excluding financial companies.
The Nasdaq is historically dominated by technology companies, but more non-tech companies have found a home on the Nasdaq in recent years. The Dow Jones U. Broad Stock Market index aims to track every company actively traded in the U. The Russell is a slightly smaller index that also aims to benchmark the entire U. Since the components of total market ETFs hardly ever change, these ETFs have some of the lowest expense ratios available.
Schwab U. There's a sector ETF for just about any industry you can think of. The following list is just a sample. Commodity ETFs If you want to invest in certain commodities to diversify your portfolio, ETFs provide an easy and effective way of doing so. Diversification is the process of investing in multiple asset classes in order to reduce the volatility in your portfolio. Commodity ETFs do have relatively high expense ratios, though.
Or you can opt for international bonds, high-yield bonds, U. Treasurys, corporate bonds, municipal bonds, and more. In order to buy an ETF, you'll need to open a brokerage account. Schwab also lists a few other commission-free ETFs. Other brokers will usually have a select list of ETFs available commission-free.
Be sure to open an account with a broker that has the most of the ETFs you want on their list, or try to find alternatives you can buy commission-free. Removing commissions is a key part of an ETF investment strategy, as the fees can really cut into your returns. Once you've opened up a brokerage account and funded it, you buy shares of an ETF just like you do a stock.
You can use a market order, which will buy shares at the next available market price, or you can use a limit order, which will buy shares at or below a specified price. If the ETF is on the commission-free ETF list with your broker, you'll pay no commission -- otherwise, you'll pay the standard rate. It's really that easy. Anyone can use ETFs as part of their investment strategy. ETFs are particularly useful for filling in gaps in your portfolio where you either don't have an interest or the time to do the research on individual investments in order to diversify your portfolio.
While not completely necessary for a portfolio, ETFs can make things a lot easier for individual investors. Cost basis and return based on previous market day close. Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of Discounted offers are only available to new members.
Calculated by Time-Weighted Return since Volatility profiles based on trailing-three-year calculations of the standard deviation of service investment returns. Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services. Premium Services. Stock Advisor. View Our Services. Our Purpose:. Latest Stock Picks. Today's Change. Current Price. ETFs have become increasingly popular, and they can play a key role in any investment strategy.
Image source: Getty Images. Broad Stock Market Schwab U. Apple vs.
They attempt to limit risk by short-selling shares that are overvalued. Leveraged ETFs are right for experienced investors who understand their risks. These ETFs are designed to deliver a multiple of an index return on a daily basis. Leveraged ETFs use debt, options, short-selling, and other methods to reach their goals. Leveraged ETFs magnify both gains and losses. ETFs let new investors take advantage of professional money management.
Seasoned investors can use them to capitalize on certain areas of opportunity based on conditions. ETFs can also be used for highly sophisticated leveraged and short-selling strategies. They're liquid, cost-effective, and transparent. They can be used as building blocks for any investment strategy, and to take advantage of opportunities in any market, region, or sector.
Do your research before you invest. Know how much risk you're comfortable with. Think about getting help from a professional financial advisor if you're new to investing. Exchange-Traded Funds. Table of Contents Expand. Table of Contents. Multi-Asset ETFs. Basic Index ETFs. Style and Factor ETFs. Sector ETFs. International ETFs. Socially Responsible ETFs. Risk Management ETFs. Leveraged ETFs. Part of. Types of ETFs. ETFs vs. Other Investments. ETFs for Your Portfolio.
By Jeffrey M Green. Jeffrey M. Green has over 40 years of experience in the financial industry. He has written dozens of articles on investing, stocks, ETFs, asset management, cryptocurrency, insurance, and more. Learn about our editorial policies. Reviewed by JeFreda R. JeFreda R.
Brown is a financial consultant, Certified Financial Education Instructor, and researcher who has assisted thousands of clients over a more than two-decade career. Learn about our Financial Review Board. Fact checked by Julian Binder. Julian Binder is a fact checker, researcher, and historian.
They were the recipient of the North American Studies Book Prize , , and they have previous experience as an economics research assistant. They have also worked as a writer and editor for various companies, and have published cultural studies work in an academic journal. As a fact checker for The Balance, Julian is able to utilize their experience as an editor and economics research assistant.
Their role as fact checker is to review articles for accuracy, update data as needed, and verify all facts by citing trusted sources. Key Takeaways ETFs are cost-effective ways to invest in many securities at once while still having the liquidity of owning individual stocks. Investing in value stocks will help your portfolio to grow at a much faster rate than it might otherwise, owning income stocks will allow you to build a desirable stream of passive income for yourself, and ETFs will go a long way toward bringing you a stable return over the long-term.
A portfolio that contains a mixed of ETFs, value stocks and income stocks will bring you a consistent long-term return. Investing in Exchange Traded Funds is quite simply one of the best ways for you to build your long-term wealth. As a new ETF investor, the best way for you to enjoy the most successful results is to take the time to invest in your own education before investing in an actual fund. Before you buy your first ETF, make a point of learning as much as you can about the Exchange Traded Fund investing approach.
ETFs have become a common investment vehicle, and there is no shortage of information about them on financial websites, in business magazines, and in the literature provided by many investment and brokerage companies. Hung Nguyen. Entrepreneur, independent investor, instructor and a visionary of my team here. I've been playing with stocks and cryptocurrencies and sharing my knowledge to the world. Right here is the perfect blog for anyone who really wants to understand this topic.
You understand so much its almost hard to argue with you not that I really would want to…HaHa. You certainly put a brand new spin on a topic that has been discussed for a long time. Great job! Thanks for sharing this article.
Please log in again. The login page will open in a new tab. After logging in you can close it and return to this page. ETF Investing. But as we will see, there are three major advantages to investing in ETFs instead of in mutual funds: Less risky fund management Lower trading and holding costs Higher trading convenience Mutual funds are actively overseen by portfolio managers who are constantly buying and selling fund-owned stocks in an ongoing attempt to hold the best possible collection of financial securities.
We also use third-party cookies that help us analyze and understand how you use this website. These cookies will be stored in your browser only with your consent. You also have the option to opt-out of these cookies. But opting out of some of these cookies may affect your browsing experience.
Necessary Necessary. Necessary cookies are absolutely essential for the website to function properly. These cookies ensure basic functionalities and security features of the website, anonymously. The cookie is used to store the user consent for the cookies in the category "Analytics". The cookies is used to store the user consent for the cookies in the category "Necessary".
The cookie is used to store the user consent for the cookies in the category "Other. The cookie is used to store the user consent for the cookies in the category "Performance". It does not store any personal data. Functional Functional. Functional cookies help to perform certain functionalities like sharing the content of the website on social media platforms, collect feedbacks, and other third-party features.