| When people ask for investing advice, ETFs | | | | of ETFs generally allow for liquidation of a |
| usually come up pretty quickly, because they | | | | position faster than a mutual fund, which |
| are so heavily marketed and trumped by the | | | | must be liquidated at end of day. Further, |
| industry. Exchange-traded funds, or ETFs, are | | | | the ability to set a limit order allows |
| an easy way to diversify a small investment, | | | | flexible trading that no investor could get |
| but to get the most out of your investment, | | | | from a mutual fund. Not all ETFs have the |
| it is important to understand how they | | | | same liquidity, however, and it is important |
| operate. | | | | to review trading volumes and the ETF |
| | | | prospectus to determine whether you are |
| ETFs are like mutual funds, in that they are | | | | comfortable with the frequency of trades. |
| a collection of investments, but they are | | | | |
| traded on an exchange, such as the NYSE, | | | | 4. Intraday Pricing: Because ETFs are traded |
| instead of purchased directly from the | | | | on active stock exchanges, purchases and |
| issuing company. They also differ in their | | | | sales happen at market prices, rather than |
| redemption structure and tax efficiency from | | | | end-of-day Net Asset Value, which mutual |
| traditional mutual funds. | | | | funds use. As a result, one may purchase ETFs |
| | | | at a premium or a discount to the value of |
| Here are five benefits of ETFs over mutual | | | | the underlying assets, and arbitrage is |
| funds: | | | | frequent. |
| | | | |
| 1. Tax Efficiency: Upon redemption, mutual | | | | 5. No Minimum Investment: When starting |
| funds must sell its underlying securities, | | | | investing, diversification can be cost |
| and the capital gains are then distributed to | | | | prohibitive if you're using traditional |
| the owners of the funds. Since ETFs trade on | | | | mutual funds, which frequently have a minimum |
| an exchange and investors are selling to | | | | investment of $2500 or more. Because ETFs |
| other investors, no underlying securities are | | | | have no minimum investment (other than the |
| sold, and no capital gains are distributed. | | | | market price of one share), they are a good |
| If the makeup of the ETF changes it will, | | | | vehicle for diversified investing. |
| occasionally have to distribute gains, but it | | | | |
| should be less frequent than with traditional | | | | Of course, many of these benefits could be |
| mutual funds. | | | | liabilities if not used properly. For |
| | | | instance, the intraday pricing feature of |
| 2. Lower Fees: ETFs are no-load funds, and | | | | ETFs could lead an investor to buy an ETF at |
| you won't be slapped with a redemption fee | | | | a premium or sell it at a discount to the |
| when it's time to liquidate your position. | | | | value of the underlying securities. Also, |
| Further, ETFs typically have lower annual | | | | brokerage fees may have a greater impact on |
| fees than traditional Mutual Funds, making | | | | some investors than traditional mutual funds' |
| them an attractive alternative. (NOTE: In | | | | management fees and loads would have. |
| rare cases where a very small amount is being | | | | |
| traded, broker's fees may be a higher | | | | Used wisely, ETFs can be a good vehicle for |
| percentage of the investment than a mutual | | | | widely diversifying a small or initial |
| fund's expenses would be, but in most of | | | | investment, but it is always best to seek |
| these cases the invested amount would not | | | | professional investing advice. |
| meet the minimum investment required by most | | | | |
| mutual funds). | | | | In the future I will cover the five negatives |
| | | | of investing in ETFs. |
| 3. Liquidity: The exchange-traded structure | | | | |