Exchange traded funds are a type of investment tool that allow the average retail investor to easily gain exposure to a wide range of broad markets and specific strategies.
Speaking with the Washington Post, Michael Sapir, founder and chairman of ProShares, explains the ETF investment as a “mutual fund that trades on a stock exchange.”
“In a no-load mutual fund, generally you are buying directly from the fund company. In an ETF, you are buying the fund over a stock exchange just like you would buy a share of stock,” Sapir said in the article.
The ETF is seen as a good fit for both retirement and general investment accounts due to their low costs, tax efficiency, transparency and broad market coverage.
“ETFs are the most important investment vehicle developed in 50 years,” Sapir said. “ETFs have come along during an inflection point in how investors look at investing. What we see investors wanting is a realistic return while trying to reduce the volatility of ups and downs in their portfolio.”
Next page: Know your holdings
Nevertheless, Sapir warns of potential risks. For instance, there is a need to educate more people on how ETFs work. As more ETFs come to market, sponsors will begin to offer more specific target strategies, and investors will need to know how the underlying ETF holdings work.
“A large-cap index might be equivalent to a flat-head screwdriver that you use on a regular basis,” Sapir said. “Just like when you go to Home Depot, there are some tools that a basic do-it-yourselfer would use. But there are other tools that more-sophisticated contractors would use.”
Sapir also argues that there is no magic number of ETFs to create a properly diversified portfolio, especially as investors include more alternative assets other than traditionally long-only equities and fixed income to help diversify.
With the growing number of products available, investors have to understand what a particular ETF was designed to accomplish.
Advisors who are interested in learning more about alternative investments may sign up for the Alts Virtual Summit conference slated for May 15, 2013. The conference will provide information on various alternative investment strategies at the comfort of your own home or office.
For more information on ETFs, visit our ETF 101 category.
Max Chen contributed to this article.