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3 Ways ETFs Are Perfect for Retirement

By Barbara Eisner Bayer - Updated Mar 18, 2021 at 8:05PM

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Retirement portfolios need ETFs, which trade like stocks but offer the diversification of mutual funds.

Wouldn't it be great if there were a retirement investment that you wouldn't have to think about while it made you money? One that could work for you as you're saving for retirement and once you get there?

You don't have to dream about the possibilities, because such an investment exists -- and it's called an exchange-traded fund, or ETF.

The letters ETF and the words Exchange Traded Fund on  blackboard, with man drawing upward arrow

Image source: Getty Images.

What is an ETF?

An ETF is a basket of stocks based on a specific index or investing strategy. It's similar to a mutual fund but with two major differences: You can buy or sell it at any time, just like a stock, and it doesn't have the cumbersome fees charged by many mutual funds. If you own a mutual fund and want to sell it, you have to wait until the market closes, but an ETF can be bought or sold whenever the market is open.

The best thing about ETFs is that you can add them to your portfolio and then forget about them. After all, retirees want to enjoy their senior years and not obsess over buying and selling stocks on a day-to-day basis. Below are three reasons why ETFs are perfect for retirement portfolios -- if you're already in retirement or saving for it.

1. ETFs provide exposure to a variety of stocks and sectors

ETFs come in two basic types: Passive and active. The former tracks a stock index, like the S&P 500 or Russell 2000, with the goal of matching the index's performance. The latter uses a portfolio manager to invest money and attempts to beat an index.

Owning an ETF offers instant diversification. You can purchase one that holds a basket of stocks, bonds, or commodities, and you can purchase international or sector ETFs as well. Holding a group of ETFs in different industries gives your portfolio lots of exposure to many sectors.

2. ETFs have less risk than stocks

Investing in a particular stock can be risky, because when you bet on one company, any unforeseeable event can cause it to lose value. With an ETF, you're investing in an index or group of stocks, so if one stock is hit particularly hard by company-specific news, it will have a minimal effect on the rest of the holdings in the index. By owning many stocks in one investment vehicle, you're spreading your risk.

3. ETFs save you time and energy

It takes a lot of analysis to continually follow a company, keeping up with its quarterly earnings reports and the day-to-day news that may affect its stock price. Conference calls, price-to-earnings ratios, return on equity -- there are many metrics in fundamental analysis that a savvy individual investor needs to know about when putting money in an individual company.

With an ETF, such fundamental analysis is unnecessary because you're holding so many stocks that it's unnecessary to follow any one company individually. That's why ETFs are great vehicles to form the core of your portfolio; they free you up to follow any particular stock you choose without putting your overall portfolio at risk.

When you're in retirement, there are more fun things to do than hovering over your portfolio and its holdings on a day-to-day basis, worrying about when to buy or sell. By using ETFs, you buy yourself instant diversification and less risk than investing in individual companies, and more time and energy to do the things you really love.

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