When shopping around for an ETF to buy, it is important to consider all the costs and any drawbacks before picking out the right match.
“You’re faced with obvious, explicit costs such as the expense ratio. But that’s just the tip of the iceberg. Implicit and opportunity costs can also have a material impact on an ETF’s ability to help you achieve your desired investment outcomes,” American Century Investments said on InvestmentNews.
“Understanding the full range of costs associated with owning a particular ETF may help you make better-informed decisions about which one will suit your needs,” American Century Investments added.
For starters, ETF investors can immediately determine the explicit cost, which include the fund fees or annual expense as well as transaction costs when trading the ETF through your brokerage.
Additionally, there are other costs that can not be immediately spelled out for you. For example, implicit costs that are somewhat hidden in nature include capital gains and portfolio turnover, which have a material impact on overall returns over time.
Related: Steps to Take Before Selecting a Smart Beta Bond ETF
Investors should also consider the opportunity cost or choosing one ETF investment over another. Different ETFs, even those with very similar sounding names or objectives, take different approaches to market exposure, which can lead to a substantial impact on returns over time.
No two ETFs are created equal
Two ETFs that look similar may have varying levels of individual security or broader sector level exposures.
Additionally, different styles or themes may also exhibit varying levels of performance during market cycles as some may have a more defensive market positioning or tilt toward growth and momentum to, which also expose investors to different risks.
When developing an international investment portfolio, investors should also be aware of their country-risk exposures so that they are not too heavily tilted toward riskier market economies unless they are comfortable with the level of risk.
Basically, when it comes down to investing in ETFs, investors should always look under the hood of what they are buying.
For more information on ETFs, visit our ETF 101 category.