An ETF is a basket of securities, the shares of which are sold on an exchange. In short, an ETF is a basket of securities you can buy or sell via brokerage firms on stock exchanges. Generally, an ETF combines features of a mutual fund, where shares may be bought or sold at the close of each business day at the fund per-share NAV, with the day-to-day trading features of a closed-end fund, where shares are traded at market prices throughout the business day.


How do ETFs work?

An Exchange Traded Fund (ETF) is a type of security that tracks an index, industry, commodity, or other asset but can be bought or sold on a stock exchange just like regular stocks. Buyers and sellers trade in baskets on the exchange throughout the day, just like in stocks. ETFs, let investors purchase a bundle of assets into just one fund, which is traded on the exchange just like a stock. Like stocks, ETFs can trade on an exchange and have unique ticker symbols that let you monitor their price movements. Exchange-traded funds (ETFs) are SEC-registered investment companies that provide investors with a way to combine their money into one fund that invests in stocks, bonds, or other assets.

Unlike mutual funds, because ETFs are publicly traded securities, investors are able to make the same types of transactions that they would make with stocks, such as limit orders, which allow investors to indicate a price point they are willing to trade, stop-loss orders, margin purchases, hedging strategies, and no minimum investment requirements.

While common stocks have a fixed number of shares (for the most part) in circulation, a given ETFs outstanding shares may change on a daily basis, as new ETF shares may be created from the fund’s underlying securities and existing shares may be redeemed for funds holdings. The prices of ETF shares fluctuate throughout the day as ETFs are bought and sold; this is in contrast to mutual funds, which only trade once per day, once the market has closed. Because the units of the ETF are listed on the exchanges alone, they are not bought or sold as with any regular open-end equity fund.


Are ETFs better than stocks, and what is the difference?

Whether ETFs or single stocks are the better investment choice depends on your goals. When you are making a decision about whether you should go with stocks or choose ETFs, consider both your risks and the potential returns you could get.

If you are looking for safe investments, are new to investing, or are considering emerging markets that have narrow return spreads, higher risks, and few drivers for success, an ETF over stock may be the better choice. There are several types of ETFs, so investors may opt for funds that are more concentrated if they are interested in a specific segment of the market, or investors may choose to invest in index funds, which track a particular index of stocks, such as the S&P 500. An ETF will give you a different kind of investment than stocks. With ETFs, you just need to invest in one ETF, and you are automatically invested in all of the stocks included in that fund.

Stocks represent shares in single companies, while ETFs offer shares in several companies in one packaged package. ETFs can trade as stocks, but underneath the hood, they are more similar to mutual funds and index funds, which can differ widely in terms of the assets they hold, as well as the investment goals. Because ETFs and mutual funds are both carefully-curated collections of securities, both instruments enable investors to diversify their portfolios by buying into a variety of securities through one investment.


What is an example of an ETF?

Examples of ETFs are the S&P 500, the Dow Jones Industrial Average, and the MSCI Europe Australasia Far East (EAFE) Index. By the way, S&P 500 stands for Standard and Poor’s 500. It is a stock market index tracking the stock performance of 500 large companies listed on exchanges in the United States. It is one of the most widely followed stock indexes.


Bottom Line

Even if it seems that ETFs are a safer investment than individual shares. There is also the risk of a loss and you should inform yourself very well in advance.

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Clarence Choe