At a particular moment in life, we reach a point where we have extra money that we want to invest profitably. We are not talking about those who take payday loans California, of course. If you earn more than you spend and are ready to invest, pay attention to investment funds and their offers.
Exchange-traded funds (ETFs) are popular today because they are more cost-effective and liquid than mutual funds. If you are just taking your first steps in investing, choosing such a fund can be challenging. However, with some knowledge, you can invest your money in an ETF that will help you achieve your investment goals and reach a high level of profitability.
What is an ETF?
An exchange-traded fund is a fund that trades on an exchange. It is a financial instrument that allows an investor to invest in several assets simultaneously. An ETF may include stocks, bonds, commodities, or their combinations.
An ETF includes certain tangible assets such as:
- crude oil and petroleum products;
- precious metals;
- stocks and bonds of various companies.
These can be shares of well-known companies of one country or a particular sector of the economy of a country group, as well as companies representing entire regions.
The advantage of ETF is that when you buy its shares, you become a co-owner of all securities. However, you must pay a commission to manage the fund’s assets, from 0.1 to 2%.
Choosing the right ETF for an investor
You need a systematic approach to ensure your investment choices align with your financial goals. Therefore, you should use the following algorithm:
- Identify and spell out your investment goals and psychological aspects.
Also, assess your comfort level with risk and how you tolerate short-term price fluctuations. Are you conservative or growth-oriented? Once you have analyzed all this, you will understand your optimal asset mix between stocks and bonds.
- Think through your investment strategy in detail.
Define your financial objectives. Choose an approach that aligns with your investment objectives and desired level of involvement in managing your portfolio.
- Keep an eye on your expense-to-income ratio.
Total returns can vary from year to year. In general, ETFs have lower expenses than mutual funds. When comparing similar funds, you should be sure to take costs into account. Another important factor an investor must consider is diversification, i.e., investing resources in several sources of profit: stocks, bonds, gold, currency, oil, etc. It allows for minimizing the risks of losing the invested money.
- Consider the total return of the ETF, which includes commissions, dividends, distribution payments, and capital gains. Liquidity of the underlying asset, not the ETF itself, is also necessary. For example, if your exchange-traded fund holds shares of Coca-Cola, you consider the liquidity of Coca-Cola, not the ETF.
- Evaluate the characteristics, fees, and performance history of each ETF to make sure they fit your investment strategy.
Building an investment portfolio
An ETF investor’s portfolio should contain different types of assets, depending on the returns and level of risk the investor is willing to take. All investment portfolios can be divided into aggressive (containing assets with high returns and high risk) and passive (management goes on autopilot after your initial settings). When forming a portfolio, it is essential to consider factors such as the level of risk and the rate of return.
If you have finally decided on a fund, you should understand the amount you are ready to invest and how much time to devote to your new endeavor.