Exchange-traded funds are securities that move like an index and reflect it. Compared to other products, they have a very low “tracking error”, ie a slight deviation from the desired index. ETFs are tradable daily, just like stocks on the stock exchange. They therefore differ from investment funds that are traded by a fund company.
ETFs are passively managed products in which the fund manager does not stock picking. Often, computers automatically adjust to the index to save costs.
How is an ETF created?
The creation of an ETF can be done in different ways. A form is the physical picture. Here, a company is founded, which physically buys the shares, which should be in the ETF. So the value of society fluctuates just like the values that are in society. To make this “move” accessible to investors, the company issues its own ETF shares.
What kind of ETF’s are there?
There are ETFs for funds, indices, industries, commodities, countries and regions. Special forms are Short and Leverage ETF’s. A short ETF moves exactly opposite to the underlying index or basket of securities. A short EFT on the DJIA thus makes 1% profit when the DJIA falls by one percent. However, as the Dax rises, the investor also loses.
A Leverage ETF, or leveraged ETF, participates disproportionately in gains and losses of the underlying index. For example, an ETF with a leverage of 2 makes 4% profit when the DJIA makes 2%. The flip side is that the ETF also loses twice as fast when the DJIA slips into negative territory.
What are the benefits of ETFs?
The main advantage of the ETF is its diversification, ie the distribution of money into different sectors, countries or securities. This minimizes the investment risk.
According to FocusShares.com there is also no issuer risk for physically traded ETFs. For example, if you buy a certificate on the Facebook issued by NASDAQ, you will not have a loss if the NASDAQ goes bankrupt, but only if the Facebook falls.