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What is an ETF (Exchange-Traded Fund)?

In the past few years, ETFs have become an increasingly popular option for investors globally. They have numerous advantages and are often used by investors to effectively reach their long term investment goals. But before looking into the benefits offered by ETFs, let’s take a look at what they are and why they are different to other types of funds.

What is an ETF?

Exchange Traded Funds (ETFs) are investment funds made of a number of securities, such as shares or bonds, that aim to track the performance of a particular index, such as the S&P 500 or the FTSE 100. This makes ETFs passive investment instruments, which aim to maximise returns over time by minimising the amount of buying and selling. 

An ETF will buy the underlying assets of the investment it wants to track. If it’s an index, it will buy all the shares in that index, usually replicating the proportion of their market capitalisation. This fund is then sold on the market with a set number of units.   

Compared to active funds, where portfolio managers can engage in discretionary buying and selling to maximise returns, in a passive investment scenario investors already know the products their savings will be invested in.

What makes ETFs special is that they are traded as stocks on the stock market – they experience price changes throughout the day as they are bought or sold. This enables ETFs to typically have higher liquidity (you can sell them easily) as well as lower fees, compared to other investment instruments – two characteristics that make ETFs a valuable choice for a flexible and efficient investment portfolio.

Photo by Dave George on Unsplash

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