Exchange-traded funds (ETFs) are investment funds traded on stock markets just like regular stocks. They can hold stocks, bonds or commodities. Most ETFs are index funds that try to duplicate the performance of a specific index.
If you’re just starting out investing and trying to decide between individual equities and mutual funds – ETFs are the middle ground. They are traded on stock markets but are also bought & sold for the net asset value and one fund can hold many different individual equities – just like a mutual fund.
The main advantage of an ETF is the low cost. How low?
A quick review of the iShares offering of ETFs shows most have a MER of 0.5% or less. Compared to a traditional mutual fund with a MER (management expense ratio – a fancy term for what it costs to manage the fund) of 1.5-2%, the difference over long periods of time can be huge.
ETFs can also be purchased commission-free from discount brokers. Personally, I use Questrade to buy ETFs without paying any commissions. The only commissions involved is when ETFs are sold – which helps with dollar-cost averaging.
ETFs also offer an investor the flexibility to buy/sell whenever they want. Mutual funds are purchased at the end of each trading day using their net asset value. ETFs can be bought & sold any time the market is open, just like regular stocks.
ETFs also offer different order types to be fulfilled.
For example: limit and stop-limit orders (specific conditions to buy/sell at a certain price) can be used with ETFs. This can come in handy if an investor is not able to constantly monitor market prices and wants to buy/sell but only at a certain price.
An ETF has the diversification of a mutual fund but without the associated costs of a traditional fund.
An ETF could contain many different individual stocks, which means the market exposure could be spread out over several different industries.
Even John Bogle, former head of Vanguard and advocate of mutual funds, agreed that a broadly-diversified ETF can provide solid returns over a long period of time.
Truly Passive Investing
Investing in dividend stocks has become popular, but it also requires a lot of time – researching the right stocks to buy can take weeks or even months.
Related: 5 Advantages of Dividend Stocks
Buying individual stocks involves: Reading annual reports, listening to analyst recommendations, reviewing company financials and trying to buy in at the right time.
Buying an ETF takes less time because you aren’t buying one individual stock – you’re buying a handful of them at the same time.
Everyone likes passive income – and an ETF makes it truly passive by saving you time without having to do tons of research.
Most of my investing experience has been in the Canadian markets, so I can admit I don’t know much about selecting blue-chip American stocks.
This is where ETFs will come into play. When the market timing is right, I plan on entering the US market using ETFs rather than individual stocks I have little knowledge of.
For Canadian market coverage I invest in the Canadian Dividend Aristocrats Index Fund (CDZ). This is an ETF that focuses on medium-large market cap Canadian companies that have increased their dividends for 5 straight years.
Conclusion: I like ETFs because they have low costs, flexibility while trading and diversification. I have invested in CDZ and will eventually start to purchase ETFs that focus on blue-chip American companies.
Do you like ETFs compared to mutual funds?