Exchange-traded funds (ETFs) are easy to use and very convenient. They are basically just funds that issue shares to traders and investors alike. Instead of monitoring the performance of a single company, an ETF shares tracks on an entire equity index, foreign currency, and commodity without the added hassle of investing directly in the underlying products. This particularly enables traders to track the performance of top global companies as represented by the S&P 500 index by owning “spider” shares.
What more is that investors get the much wider exposure for a total expense ratio (TER) which is a lot better compared to an actively-managed fund for which investors are paying hefty amounts of fees that are 10 or 20 times the intended amount without the associated upfront fees.
Another advantage of most UK-listed ETFs is that unlike the traditional shares, investors need not pay the usual 0.5 % stamp duty fee on purchase price which in the long run allows for ETFs to generate additional income. This is a much sought after goal of many investors especially with interest rates on cash deposits are unbelievably low. The best route by far to a safer yield is to choose ETFs that focus on stocks that are more likely to maintain and raise dividends.
ETFs to eagerly watch for
ETFs are enormously useful and practical when dealing with financial products and that is why a lot of investors like them. But as with anything, you need to understand what you are buying in the first place. It is important to note that not all ETFs are appropriate and suitable for all investors’ especially traditional ones. Specifically “leveraged” and “short” ETFs are the two most notorious ones to watch out for.
Short ETFs provide investors with the chance to bet on worst performing markets. They do this by offering the “inverse” return on a given index. In other words, whenever an index falls, the ETF goes up and vice versa. On the other hand leverage ETFs will provide investors with up to three times the return on a given index. So if the index rises by 5 % in a day, you would anticipate the ETF to go up as much as 15 %. Another option is to go for “short” leveraged ETFs that offer a double inverse on an index.
Overall this all sounds great, particularly if you believe a market is tilting towards a fall. The wisest thing to do is to be open minded in purchasing and holding ETFs. The only primary concern to look out for is what is called ‘daily rebalancing’. In short this simply means that for those who have in possession the said ETFs for more than a single day chances are they will start to drift away from the activity of the underlying index.
Furthermore, the more leverage an ETF uses, the poorer the drift is presumed. But even the short yet simple ETFs drift overtime as well. Therefore, while these products might be useful for some short-term traders, these are surely not a good choice for novice and beginners.