In essence, an exchange-traded fund (also known as an ETF) is a type of investment fund that is openly traded on numerous stock exchanges. Much like a traditional fund, an ETF is a means for an investor to purchase a percentage of a specific group of securities. The main benefit of this type of fund is that it contains numerous underlying assets. The trader is therefore able to enjoy a greater level of stability without having to purchase numerous shares independently of one another. While the ETF has been around since the 1970s, this method of investing has become increasingly popular with the advent of electronic trading platforms. Let us take a closer look.
How Does an Exchange-Traded Fund Work?
Some have equated the ETF to a common mutual fund. However, there is one notable difference between the two. An exchange-traded fund can be traded much like an individual stock. There are no temporal or contractual concerns that need to be fulfilled. So, an ETF can be bought and sold much like a traditional security. This allows for a greater level of efficiency when trading. Stop and limit orders provide a additional sense of flexibility.
Prevalence on the Market
As of 2013, it has been shown that ETFs have become the most common form of exchange-traded assets. Therefore, there are a number of electronic platforms which offer this type of product to the general public. Such enhanced visibility also equates to a greater variety and access to numerous indices. It is further estimated that there are well over 1,800 of such funds currently available on the global market. So, we can clearly appreciate why they have become so incredibly popular.
Guidance When Trading ETFs
Much like any trading system, a handful of tips exist which can help to minimise the risk to the investor when he or she becomes involved with these funds. It can be argued that the most important suggestion is to avoid entering into a position during times of high market volatility. First, the underlying value and the net asset value can both differ from the open-market price of the associated securities. The bid-ask spread could also widen. This will result in higher commissions and trading costs. A few other tips include:
● Select an ETF that displays adequate volume.
● Set the bid-ask ratio well in advance.
● Stay away from overly frequent trading. Commissions and fees can quickly add up.
Although there is no doubt that an ETF will offer a greater sense of stability, we should also keep in mind that these recommendations can help to limit any potential losses that take place from time to time.
Large Online Platforms
As ETFs are generally only available to larger brokerage firms, it is prudent to use those which offer superior levels of transparency and liquidity. CMC Markets represents this very same architecture. Users will be able to control the amount of holdings they possess while keeping informed of the latest news and market movements. These are key advantages, for the value of an ETF fund can change dramatically within a short period of time. Appreciating the benefits behind these turnkey products is the first step in generating sustainable wealth.
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