In part 3 of the Investing for beginners series, we discuss investing in ETFs: exchange-traded funds.
Did you already read the previous posts about investing in stocks and bonds? You can find them here:
- Investing for beginners: the how-to guide for stocks
- Investing for beginners: the how-to guide for bonds
Compared to stocks and bonds, investing in ETFs is the easiest and safest option.
If you are investing in stocks or bonds, you want to diversify.
This means you want to buy as many different stocks/bonds in other economies, different parts of the world, and various industries.
When you do this yourself by buying 1 or 2 shares from each company, your trading fees will go through the roof. The ETFs are the solution to this problem.
What Are ETFs?
An ETF enables you to buy into an extensive diversified portfolio.
This means that you can buy an ETF that tracks, for example, the gold price. Or you can buy an ETF that tracks the world economy.
Since the market generally moves up, historically, you will get an average return of 7% per year.
The only side note is that you should be in it for the long run. If you are looking for fast gains, this is not your place.
Pros For Investing In ETFs
Low Transaction Costs
The ETF World I currently have invests in over 3000 mid and large-cap companies on every continent.
It invests in Western economies as well as emerging markets and in financial services as well as in the technological industry.
On top of that, the managing fee is only 0.25%! This is low compared to regular brokers. What does that mean? More returns left for you!
With ETFs, you can invest in anything.
Index funds are limited to indexes, so they track for example, the S&P 500 or the NASDAQ. For ETFs, you can trade in anything!
You can trade the world market, you can trade a specific country, or you can trade commodities. For commodities, you can buy ETFs in gold or oil.
Besides that, you are diversified, which means you are protected against some major risks.
For example, if one company goes bankrupt, you will lose a lot of money when you are invested in 5 or 10 different stocks.
However, with ETFs, you are more protected against such risks. You will barely notice anything when one of the 3000 companies in the ETF goes bankrupt.
The same is true for war, the economic crashes in a specific country, or economic crashes in a particular market.
You will notice it to a lesser extent than when you invest yourself in a few stocks.
The same is true for war, the economic crashes in a specific country, or economic crashes in one particular market.
You will notice it, but to a lesser extent than when you invest yourself in a few stocks.
Additionally, you can trade ETFs just as any other stock. You log in to your broker, press buy/sell and that’s it.
You can buy and sell whenever the market is open. If we compare this to mutual funds, mostly you can only buy/sell once a day.
For ETFs, this means you can respond to news quicker and possibly increase your profit or decrease your loss.
You Can Set And Forget
Lastly, ETFs are a great opportunity for people who are starting with investing or have a lower capital to invest.
Let’s compare an investor that can invest €100.000 or an investor that can invest €1000.
The investor with €100.000 can invest in a diversified portfolio (even though this investor will still be paying more trading fees), while the investor of €1000 can maybe get 2 or 3 different shares.
To mitigate the risk, the investor of €1000 might decide to start investing in ETFs since they diversify without requiring a significant initial investment.
Cons For Investing In ETFs
In the paragraph above, we discussed the pros; let’s go on to the cons now.
As I discussed above, when the market is in a downward trend, you will probably lose less when you invest in an ETF compared to investing in specific companies.
This also implies that when the market is in an upward trend or growth, you are ‘protected’ against a big profit.
If you have a highly diversified portfolio and the world economy grows, there is less profit for you to make. Possibly the emerging markets included are growing less than average or one industry is growing below average.
When you have a big and diversified portfolio, there are always shares averaging the performance.
ETFs As The Basis
For me, ETFs are the basis of my portfolio. After I invest my money in World ETFs, I will go on to specific countries and commodities ETFs.
After that, what I did before was also buy bonds (I’m currently not investing in bonds). On top of that, I will buy stocks that I believe are undervalued.
ETFs will keep your commissions low, you are taking less risk and it is a very simple way to diversify your portfolio. It is a very simple way to make money work for you!
I am loving ETFs, and I’m curious what you think about them. Please let me know!
Disclosure: The author is not a licensed or registered investment adviser or broker/dealer. They are not providing you with individual investment advice. Please consult with a licensed investment professional before you invest your money.
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Tim Thomas has no positions in the stocks, ETFs, mutual funds, forex, or commodities mentioned.
Featured image credit: Unsplash.