Monday, October 14, 2013

Exchange-traded funds (ETFs)

I have issues trading things. Especially Pokemon.
Read this if: 

1) You want to know about one of the most flexible and low-cost investment choices you can make. 

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I don't think I've explicitly stated this, but I am a big fan of index funds. I've talked about what those are here and pretty much everyone has heard of stocks. There is something you can invest in that I haven't mentioned: exchanged-traded funds (or ETFs). Think of the ETF as the baby of a stock and an index fund. 


What are they? 

The keyword in exchange-traded funds is "funds." An ETF invests in multiple stocks. The difference between an ETF and "regular" mutual fund is that you can buy and sell (i.e., "trade") shares of the fund all day long, just like stocks.

What are the benefits?

Like any mutual fund, an ETF helps you diversify since you are investing in multiple companies at once. They also come with the advantage that you can trade them, so you can buy when prices are low and sell when prices are high. They also have relatively low fees even compared to index funds (which are known for having really low fees). 

Anything negative?

The flip side of paying when you buy or sell is that you pay whenever you buy or sell. The fees can add up really quickly if you trade all the time, and in small quantities. 

[Note: I don't recommend day trading for people our age anyway.]

Bottom line…

If I bought shares of an ETF, I would hold it just like I hold my shares in index funds. So for me, ETFs and index funds are basically the same thing. In that scenario, I would save a lot of money on fees because I'd only pay once when I bought the shares and then again when I sold them, which would be years from now. 

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As always, contact me with questions or suggestions! You can either comment directly on the post or send me an email to moneymattersjoan@gmail.com. 

Photo Credit: Screen shot from this video Trading Pokemon

2 comments:

  1. One cautionary note about ETFs is avoid ETFs that are structured as a commodity pool. These ETFs generate income and capital gains by trading in futures contracts, but will not make cash distributions. Unlike a mutual fund ,in which shareholders are taxed only on income they, as shareholders, derive from their investment, shareholders of a commodity pool ETF are taxed on income the ETF generates but retains internally.

    So if you need distributions from the fund to pay taxes on income and gains derived from the fund, avoid commodity pool ETFs like the plague. You could get a nasty surprise from the IRS. I am no tax expert, but I believe this is not an issue for ETFs that invest in common stocks.

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  2. Hi, thanks for reading and commenting! I haven't actually looked into commodities much in general, so thanks for the warning!

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