The ABCs of ETFs
What does ETF Stand For?
ETF stands for Exchange Traded Fund
Why is it Called That?
The name Exchange Traded Fund comes from the fact that they are bought and sold (traded) on stock exchanges. In the same way, you can buy shares of individual companies like Apple, you can buy ETFs.
What is an ETF?
ETFs are marketable securities that track any number of things such as;
- a stock index (like the S&P 500)
- specific sectors of the economy or
- a basket of different assets
Put simply, ETFs are funds that provide small investors the ability to diversify their investment portfolio. The value of an ETF is derived from the assets the fund holds.
Can you give me an Example of an ETF?
One of the most common forms of ETFs is Index Funds that track the S&P 500 stock index. The S&P 500 is an index made up of the 500 largest stocks on the U.S stock market.
An S&P 500 index fund aims to mirror the returns of the S&P 500. It does this by investing in the 500 stocks that comprise the S&P 500 Index, in proportion to each stock’s relative share of the Index.
For example, if Amazon made up 3% of the S&P 500 Index than 3% of the assets of the S&P 500 Index fund would be comprised of Amazon shares.
These type of Index Funds that are sold on the stock exchange classifying them as ETFs.
How Do I Buy and Sell ETFs?
The simplest way to buy and sell ETFs is through an online broker like
Last Question, why are ETFs so Popular?
ETFs are incredibly popular. The value of all assets held inside ETFs is nearly $4.5 trillion worldwide.
More and more people have been flocking to passively managed Index Fund ETFs over buying individual stocks or traditional mutual funds.
The advantage ETFs have over individual stocks is quite clear. ETFs allow small investors with a limited amount of money to invest in a diversified basket of assets. When one share of Amazon costs $1,500 it’s impossible to build a diversified portfolio without large sums of money.
Mutual funds also provide diversification for small investors. ETFs edge out mutual funds for two reasons.
- ETFs provide greater convenience and liquidity since they can be bought and sold on the stock market (traditional mutual funds cannot)
- ETF’s have lower management and commission expenses compared to mutual funds.
There you have it, a brief introduction into the basics of ETFs. If you have any further questions about ETFs let me know in the comments below.
This article is for informational purposes only, it should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any major financial decisions.