Understanding Exchange-Traded Funds (ETFs) | Generated by AI
Question: What is ETF?
Answer:
An Exchange-Traded Fund (ETF) is a type of investment fund that holds a diversified basket of assets, such as stocks, bonds, commodities, or a combination thereof, and trades on stock exchanges throughout the day at market-determined prices, similar to individual stocks.
Key Features of ETFs
- Structure: ETFs pool money from multiple investors to create a portfolio that typically tracks a specific index (e.g., S&P 500), sector, commodity, or investment strategy. They can be passively managed (index-tracking) or actively managed.
- Trading: Unlike mutual funds, which are priced and traded only once per day at net asset value (NAV), ETFs can be bought and sold continuously during market hours, with prices fluctuating based on supply and demand.
- Diversification: A single ETF share provides exposure to many underlying assets, reducing risk compared to owning individual securities.
- Cost Efficiency: ETFs generally have lower expense ratios than mutual funds due to passive management and efficient creation/redemption processes involving authorized participants.
- Tax Efficiency: The in-kind creation and redemption mechanism often minimizes capital gains distributions, making ETFs more tax-efficient in many cases.
- Types: Include equity ETFs, bond ETFs, commodity ETFs, sector-specific ETFs, international ETFs, leveraged/inverse ETFs, and more.
ETFs have grown immensely popular since the first U.S. ETF (SPDR S&P 500 ETF, ticker SPY) launched in 1993, offering investors an accessible, liquid, and low-cost way to build diversified portfolios.
Comparison to Mutual Funds
| Aspect | ETFs | Mutual Funds |
|---|---|---|
| Trading | Throughout the day on exchanges | Once per day at NAV |
| Pricing | Market price (may have premium/discount to NAV) | Always at NAV |
| Minimum Investment | Typically one share | Often higher minimums |
| Expense Ratios | Generally lower | Often higher |
| Tax Efficiency | Usually higher | Lower due to more redemptions |
References:
- Exchange-Traded Fund (ETF): What It Is and How to Invest
- Exchange-traded fund - Wikipedia
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[Exchange-Traded Funds (ETFs) Vanguard](https://investor.vanguard.com/investment-products/etfs) -
[Exchange-Traded Fund (ETF) Investor.gov](https://www.investor.gov/introduction-investing/investing-basics/glossary/exchange-traded-fund-etf)