The stock market is a highly active collection of exchanges, with prices continuously fluctuating and several transactions happening each day. Over the years, the number of investors has grown exponentially due to the potential returns that can be achieved. Back in 2014, 36% of all adult Australians owned share investments. Today, despite the volatility of the market caused by the economic crisis, Australians are aggressively investing in the market, with several investors observably betting against the market.
While the concept of investing in stocks is familiar to many, the idea of exchange traded funds (ETF) does not ring a bell as quickly. ETFs are another type of security that can be traded, so they work similarly to stocks. Recently, they have become increasingly popular, with a number of investors jumping into the world of ETFs to diversify their portfolio.
Get to know more about what exactly ETFs are, how they work, and what benefits may result from investing in them.
What is an ETF?
Exchange-traded funds are often described to be a basket of securities as they consist of a combination of bonds, stocks, and other financial commodities. Essentially, their rationale is to allow investors to buy and sell different assets in one go, eliminating the need to get each commodity individually. As such, ETFs provide diversification benefits like mutual funds, but operate similarly to stocks, allowing you to capitalise on the ease of stock trading.
ETFs are often confused with mutual funds as they both refer to a collection of securities. However, as its name suggests, an ETF is traded on an exchange, whereas a mutual fund is not, so you can only trade it once per day. Nowadays, investors are starting to move from mutual funds investments to ETF investments.
Why Invest in ETFs?
Now, the big question is: Why should I invest in exchange traded funds? Ultimately, the most significant benefit of ETFs is diversification at a low cost. This type of security is particularly attractive to new or young investors who have little capital to invest since ETFs can give them a diversified portfolio at a lower expense ratio compared to mutual funds. Back then, ETFs were limited to particular commodities, but with their explosive popularity today, they have grown to include more and more assets–even real estate, currencies, and so many others.
Since ETFs are traded on an exchange like stocks, they can also be traded many times a day, making them highly liquid. This feature makes a huge difference as investors can quickly purchase a new investment or exit a losing investment immediately after observing the market trends. If you are working with limited capital, having this liquidity will be highly beneficial as you can preserve what you have and avoid putting too much risk in your portfolio.
Finally, ETFs are versatile in that they can be used for passive or active investment management. If you are new and thus not too familiar with the technicalities of investing, you can opt for more passive management to learn the ropes. On the other hand, if you are a seasoned investor with ample knowledge about the market, you can use ETFs to grow and advance your portfolio.
Indeed, ETFs are quickly becoming the top choice for investors today as they provide two main benefits: ease of trading and diversification. The idea of investing in ETFs may initially sound daunting for new investors, but the truth is that they can offer several benefits for those who are entering the market!
