ETF Trading Basics: The Advantages

If you are a person who has just been introduced to ETF Trading (Exchange-Traded Funds), then this introduction may be helpful. ETF is very complex and there are many moving parts to trading so this is a broad brush stroke of some basic information and the advantages of ETF trading.

The first thing to be aware of with ETF is that when anyone talks about the “history” of ETF, they are not talking about Wall Street. ETF has been around a very short time and actively-managed since 2008. There are some very large financial firms involved in ETF and that is where the history comes in. One can look at the history of a financial firm or company and see how they have done in other areas of stocks and get a fairly good idea of their record of success.

The next important item to know is that this industry is growing like crazy. In 2008 there were 628 ETFs with $562 billion, in August of 2009 there were 858 ETFs with $674 billion. With the growth has come many different types of ETFs that range from minimally risky to very risky.

There are numerous advantages to ETF trading. It has many of the benefits that stock provide. However, ETFs are usually very affordable when they are not actively-managed. Most ETFs do not have 12b-1 fees. There are lower accounting, distribution, and marketing costs. And, there is not forced purchase or sales of securities to pay shareholders.

There is a tremendous amount of buying and selling flexibility. ETFs can be bought and sold at any time during the trading day. A person can purchase shares on margin and sell short which allows hedging strategies to be used. Most of the benefits of stock trading are included in ETF trading. A person can use stop order, limit orders, use stop-loss orders, and buy on margin options (puts, calls, etc).

Just as with mutual funds, ETFs have tax efficiency. There are low capital gains generated due to low turnover in portfolio securities. The trading gives market exposure and an investor has an economical way to balance their portfolio due to the diversity of trading options. One of the greatest advantages of ETF trading is the transparency. Daily transactions are posted on the ETF brokers website each day that gives a detailed analysis of the net asset value and other details regarding trading for the previous day.

Most ETFs are structured as open-end management investment companies. They must get an exemption from the SEC for form the company and are structured the same as mutual and money market funds. This gives the ETF flexibility when constructing their portfolio. The ETF can use futures and options to achieve investment objectives and participate in lending programs. The SEC has a proposal to make ETFs open-end management investment companies which will alleviate the need to get an exemption.

An individual considering ETF trading will want to become very knowledgeable in every aspect of trading. By contacting a professional who has expertise in the details and intricacies of ETF trading a person will be able to make the decisions and create a strategy that will help them to be successful in their trading endeavors.

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