What’s up with ETF’s?

ETF’s Intro:

An exchange-traded fund is a single fund managing bunch of different stocks by industry experts (fund owners) – this will also be traded on stock exchanges like regular stocks. Basically, if you buy an ETF – you bought some portion of all stocks that the ETF is holding.

Why do they exist?

Simple Answer: Diversification. Also, multiple holdings in an ETF make it safer than owning a single stock (Single Point of Failure).

How does this fit into our personal investing?

We know the sector – we are working in. What if we want to buy stock outside of the sector we work? – say oil and petrol companies. Generally, we are not well aware of such fields unless we thoroughly follow them. In such situations, ETFs are safer options to rely on and will help in the diversification of your funds. This way your portfolio (your profile of stocks) will not be too much dependent on any single sector/index/company. People like me(who work in tech) heavily buy stocks of tech companies which hampers portfolio diversity.

ETFs, come in handy to balance your portfolio while keeping you safe to some extent from sudden volatility in any sector.

Note: There are many ETFs today targeting the same sector/field making it difficult to select which ETF to buy after deciding to buy from a sector/field.

Some big names are – SPY (Spyders), Vanguard, and Fidelity. Make sure to compare the following before buying an ETF with similar ETFs in the market. You can google any ETF comparison website and compare the below params.

What to look at – while buying/comparing an ETF?

• Methodology: Most probably ETF might be tracking an Index Fund (like S&P 500, DOW 100,….). Check the methodology, how are they selecting stocks in that index – are they considering the financials of the stock/How good is the quality assessment of stocks. Not necessary that you understand every eligibility criterion, but more quality checks generally ensure the stability and longevity of the ETF.
• Expense Ratio: Expense fund/percentage is the amount of money fund owners/company charge for handling those investments. Obviously, the less charge we pay, the better.
• Holdings: Make sure the ETF holds a good amount of stocks and has a fair amount of investment (At least 10 Million). If an ETF is holding too much in a company or investment is too low compared to others, better to look for other alternatives.
• Active trading: ETFs are traded like any other stock, you will need to make sure there is enough movement in the market with this ETF (which basically gonna increase the price of your ETF). If some ETFs are barely traded – you will be in trouble if you want to sell them immediately.
• Tracking Error: ETF tracks all stocks in the holdings. To measure, how good they are tracking – we calculate Tracking Error – by taking the difference between the actual performance of the index/stock vs the ETF. Lower the error, efficient tracking of ETF.
• About the ETF: Check the reputation of who is managing it, how long it’s been in the market, reviews/opinions on the internet, and profits.

Misc:

• When the ETF company decides to close the ETF due to reasons like no consumer interest/losses, shareholders would get a notice about the last date for trading to sell their ETFs.
• Usually, ETFs are compared with mutual funds. Compared to mutual funds ETFs are tax-friendly and can be easy to liquidate.
• Even though ETFs are low-risk investments, make sure to follow the ETF sector/index-related news to quickly decide for immediate response.
• If there are dividend-issuing companies in ETF holdings, most shareholders will receive dividends from ETFs.

That’s it for this post! Happy Investing!