Published: Sunday, July 15, 2007
Finance Q&A: Exchange-trade funds
Question: What is an exchange-traded fund? Are they an alternative for individual investors?
Answer: An exchange-traded fund, or ETF, is a security that tracks an underlying benchmark much like an index mutual fund but trades like a stock on an exchange. Brokers say ETFs offer individual investors a lower expense ratio compared with other securities, diversification, transparency and tax efficiency.
More than 500 exchange-traded funds hold assets totaling $491 billion industrywide, according to Rick Genoni, Vanguard ETF product manager.
The most popular ETFs track broad-based indexes such as the S&P 500, Russell 2000 index of smaller companies or the Dow Jones Industrial Average. But analysts say ETFs can also be an effective way to get exposure to nontraditional investments such as commodities or emerging markets.
A general upswing in the commodities markets in recent years has spawned a host of exchange-traded funds that track particular products such as oil or gold or a basket of energy, agricultural and metals products. A commodities ETF gives an investor access to a commodity's price movement, without the investor having to dabble in the futures markets or take possession of the commodity.
"These products really changed the way investors can access commodities such as gold and silver," said Dodd Kittsley, strategist for Barclays iShares family of exchange-traded funds.
For example, the United States Oil Fund LP sponsored by Victoria Bay Asset Management LLC tracks the benchmark price of crude oil and is among the most heavily traded ETFs on the American Stock Exchange. StreetTRACKS Gold Trust follows the gold price and is a top-trading fund listed on the New York Stock Exchange.
However, Cliff Weber, executive vice president of development and strategy at the American Stock Exchange, says that recently "the growth has been in what I would call strategy or theme-based ETFs, where the focus is placed on an investment theme." That strategy could hinge on stocks in a given industry such as alternative energy or health care or give investors exposure a particular geography, such as China or Europe.
One of the advantages of ETFs is that they offer more flexibility than a mutual fund because they trade throughout the day like a stock, and investors can buy as little as a single share.
But that flexibility also carries a potential drawback. Because ETFs trade constantly like stocks, they are subject to similar risks. The American Stock Exchange cautions on its Web site that investment returns will fluctuate, and an investor's shares could be worth more or less than their original cost.
Although expense ratios on ETFs are generally cheaper than mutual funds, ETFs trade on an exchange and the investor must pay broker commissions. Investors should weigh that cost against the size of their investment, says Weber.
"For an investor investing a relatively small amount, the cost of the commission becomes a much bigger factor," he said.
On the flip side, ETFs can be more tax-friendly because they tend to generate fewer capital gains due to the lower turnover of stocks within an index compared with an actively managed mutual fund. Every time a fund sells a stock and makes a profit - which is typically reinvested - individual investors are taxed.
And unlike actively managed funds, which are more secretive for competitive reasons, the portfolio of securities held by an exchange-traded fund is always transparent. Investors with an idea for a growth strategy can ask their broker to shop for an ETF with a particular profile.
Associated Press
Answer: An exchange-traded fund, or ETF, is a security that tracks an underlying benchmark much like an index mutual fund but trades like a stock on an exchange. Brokers say ETFs offer individual investors a lower expense ratio compared with other securities, diversification, transparency and tax efficiency.
More than 500 exchange-traded funds hold assets totaling $491 billion industrywide, according to Rick Genoni, Vanguard ETF product manager.
The most popular ETFs track broad-based indexes such as the S&P 500, Russell 2000 index of smaller companies or the Dow Jones Industrial Average. But analysts say ETFs can also be an effective way to get exposure to nontraditional investments such as commodities or emerging markets.
A general upswing in the commodities markets in recent years has spawned a host of exchange-traded funds that track particular products such as oil or gold or a basket of energy, agricultural and metals products. A commodities ETF gives an investor access to a commodity's price movement, without the investor having to dabble in the futures markets or take possession of the commodity.
"These products really changed the way investors can access commodities such as gold and silver," said Dodd Kittsley, strategist for Barclays iShares family of exchange-traded funds.
For example, the United States Oil Fund LP sponsored by Victoria Bay Asset Management LLC tracks the benchmark price of crude oil and is among the most heavily traded ETFs on the American Stock Exchange. StreetTRACKS Gold Trust follows the gold price and is a top-trading fund listed on the New York Stock Exchange.
However, Cliff Weber, executive vice president of development and strategy at the American Stock Exchange, says that recently "the growth has been in what I would call strategy or theme-based ETFs, where the focus is placed on an investment theme." That strategy could hinge on stocks in a given industry such as alternative energy or health care or give investors exposure a particular geography, such as China or Europe.
One of the advantages of ETFs is that they offer more flexibility than a mutual fund because they trade throughout the day like a stock, and investors can buy as little as a single share.
But that flexibility also carries a potential drawback. Because ETFs trade constantly like stocks, they are subject to similar risks. The American Stock Exchange cautions on its Web site that investment returns will fluctuate, and an investor's shares could be worth more or less than their original cost.
Although expense ratios on ETFs are generally cheaper than mutual funds, ETFs trade on an exchange and the investor must pay broker commissions. Investors should weigh that cost against the size of their investment, says Weber.
"For an investor investing a relatively small amount, the cost of the commission becomes a much bigger factor," he said.
On the flip side, ETFs can be more tax-friendly because they tend to generate fewer capital gains due to the lower turnover of stocks within an index compared with an actively managed mutual fund. Every time a fund sells a stock and makes a profit - which is typically reinvested - individual investors are taxed.
And unlike actively managed funds, which are more secretive for competitive reasons, the portfolio of securities held by an exchange-traded fund is always transparent. Investors with an idea for a growth strategy can ask their broker to shop for an ETF with a particular profile.
Associated Press
Comments
(
