Reviewed by Sep 28, 2020| Updated on
Introduction on ETF's
Exchange-traded funds are abbreviated as ETFs. Basically, these are mutual funds traded like stocks on various stock exchanges. An exchange-traded fund invests in company shares, bonds, and commodities, and typically works based on an arbitrage mechanism intended to trade near its NAV (net asset value). However, deviation from the NAV can happen at times due to various reasons. Exchange-traded funds intend to track indices. ETFs are turning out to be one of the most lucrative investment options as they come at low cost, has features similar to stocks, and are tax-efficient.
The distributors of ETFs indulge in buying and selling of units of ETFs directly with the authorised entities. The authorised participants are typically large dealers-brokers. ETF distributors sell or buy ETF units only after entering into an agreement with a broker-dealer.
After that being done, the ETF units will be created, which are in the form of underlying baskets of securities. The authorised participants can invest in the shares of an ETF over a long period. Individuals trading through retail brokers can trade shares of ETF on secondary markets.
Investing in ETFs offer a lower average of costs as it will be expensive to buy all stocks that are underlying in an ETF separately. Investors need to make only one transaction to either buy or sell and this results in lowering the brokers commission. Brokers are entitled to get a commission on each trade being made by the investor. Also, there are brokers offering no-commission trading on some low-cost ETFs, thus decreasing the costs for investors on their ETF investments.
Factors to consider before you invest
- Investors get exposure to numerous stocks by investing in just one ETF unit. They get the benefit of diversification.
- ETFs keep the expense ratio on the lower side. Also, investors need to pay fewer commissions to brokers.
- Since investors get the benefit of diversification, they are exposed to lower risk.