Stocks are easy to trade but only give you ownership in one company. Mutual funds provide diversification and flexibility with professionally managed portfolios but are saddled with clumsier trading processes and potentially higher tax bills.
An exchange-traded fund (ETF) delivers the best of both worlds. With ETFs, you get access to large, diversified stock portfolios through a single ticker that behaves like a simple stock in many ways.
What is an ETF?
An ETF is a specialized investment company that manages a single portfolio of investments in stocks, bonds, real estate, cryptocurrencies, or other assets. This company is then registered on the stock market, much like any other business. You can buy or sell shares of an ETF at any time during a normal market day, and the share price reacts in real time to shifting buyer demand and supply-side sells.
Most ETFs are passively managed, set up to simply mirror the composition and performance of a specific market index. Others are actively managed by professional fund advisors attempting to beat the market through human expertise. In most cases, you're better off with a passive index-tracking ETF's predictable, long-term performance, which also comes with lower management fees.
What's so special about ETFs?
At first glance, an ETF looks a lot like a mutual fund. You use a single ticker to trade ownership in a curated list of stocks (or other assets) and reap the rewards of instant diversification. In some cases, the investment firm behind the scenes offers a mutual fund version and an ETF alternative tracking the same market index. The results of owning either one are effectively the same in the long run.
How to invest in ETFs
Investing in ETFs is very similar to investing in stocks. You may gain exposure to a long list of stocks and other assets, but it's done through a single ticker symbol, and your new investment is managed just like a stock. If you know how to buy a stock, you also know how to buy an ETF.
Stock Ticker
ETFs update their prices during each market day, and your order to buy or sell them can be executed right away. This is different from mutual funds, whose share price and transactions are updated only after the closing bell.
So, you probably know the drill already: Open and fund a brokerage account (if you didn't already have that essential puzzle piece), research your options, and pick the best ETF for your purposes. At this point, you're almost done. Set your budget for this ETF investment, figure out how many shares you can buy for that amount, and place your order. Before you know it, the targeted ETF will be part of your portfolio.
The job doesn't end there, of course. Just like any stock, you should keep an eye on your ETF and be ready to take action if your investment thesis changes.
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If an index-tracking ETF is the only investment you'll ever make, that's a perfectly reasonable strategy that puts your financial management efforts far ahead of most people's. It can also be a stepping stone to picking market-beating individual stocks someday, supported by the robust, long-term gains of a simple index-based platform.
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