One of the first possibilities a person thinks of when looking at investment opportunities is shares. And why not? Buying a share in a profitable company rewards you with steady dividends and value growth. But the problem lies in the fact that not everyone can shell out the large investment needed to build a decent portfolio. In such cases, Exchange Traded Funds (ETFs) are becoming an increasingly popular alternative. Simply put, it is an investment fund that tracks an index, security or commodity – a cross between shares and a mutual fund.
What is an ETF?
Say you want to invest in gold, but you lack the funds to buy gold outright or buy shares in a gold-trading company. Now, picture a group of people like you pooling their funds into a basket. This basket of funds is then used to invest in a variety of shares in the gold market. Because of this, it reflects the trend of the market itself than that of an individual company. If the market goes up, your share value increases and vice versa.
You can use ETFs to invest in a range of assets ranging from commodities like crude oil to the real estate to currencies like the US dollar. You can even choose to invest in entire stock markets like the American Nasdaq. There’s even talk about ETFs for Avocados!
Advantages of ETFs
Following a market is all well and good but why should you pick ETFs over traditional and familiar investments such as shares or bonds? There are a few good reasons to favour the ETF:
- Requires low Investment – ETFs are cheaper to buy than share or bonds, making them ideal for an investor with limited means or someone just starting out in the trading world.
- Exposure – a single share in an ETF can give you exposure to an entire market. It opens you up to a wide variety of securities and in turn, diversifies your portfolio to keep your investment safe.
- Liquidity – ETFs can be easily bought and sold on the stock market, much like shares, at a low cost.
- Availability – ETFs are available in all major currencies and markets, making it easier for the average person to access international markets and their amenities.
What about shares?
Shares are likely to remain the most well-known area of the trading world. The return on a share is dependent on multiple factors such as the company’s performance and the economy of a country to name a few. But investing in shares will allow an investor to choose which company they want to invest, even single out high-return blue chip companies to invest in, in exchange for a higher return.
Investors must also remember that buying ordinary shares means that they own a portion of the company and thus, part of its returns too. It gives them voting rights in the company and with significant investment, major influence over the company too. This is not available with ETFs.
Shares will also pay out dividends to the shareholders when declared by the company. Returns on ETFs are likely to be invested back into the fund to increase its value.
What to pick?
There is no right or wrong answer here. Ultimately, the investment decision must be based on a combination of personal circumstance, expectations and money available. Look at the many options out there and then pick the one that is right for you.
Related: Buying property vs. buying shares