With over 1,600 U.S.-listed exchange traded funds available on the market, an investor will often find multiple ETF options for a single investment theme, so one should take the time and review the differences to make a more informed decision.
While the majority of ETFs passively reflect the performance of an underlying index, the benchmark indices can act as a broad representation of a market and targeted segment, but other indices may be constructed with a specific investment strategy that may be completely separate. Consequently, by understanding the underlying index, an investor will better understand the ETF, writes Jonathan Beck for Seee It Market. [Why Active Fund Investors Are Looking At Passive ETFs]
For instance, the universe of potential indices can be broken down to traditional benchmark indices weighted by market capitalization and alternative indices that are customized to track a specific strategy or actively managed style. [Transparency in ETFs at Work]
The traditional benchmark indices include the big ones that many are familiar with, like the S&P 500 index. On the other hand, the alternative indices may overweight or underweight specific sectors and asset categories, adhering to a specific investment guideline based on stock factors or company fundamentals.
From there, investors can break down asset classes into categories like large-, mid- and small-cap options. Additionally, large benchmarks can be segmented into separate sector-specific indices.