Among the various financial investment products available to retail investors, Exchange Traded Fund or ETF is a comparatively low-cost product available to a spectrum of investors across investment horizons. And as with other products, ETFs
Among the various financial investment products available to retail investors, Exchange Traded Fund or ETF is a comparatively low-cost product available to a spectrum of investors across investment horizons. And as with other products, ETFs also come with their own set of risks. Read on to find out what is an ETF, and its advantages and risks.
What is an ETF?
ETF is essentially a fund with various underlying assets and tracking a theme. It could either be a passively managed index fund where the portfolio mirrors the composition of a particular index. Other ETFs are sector ETF, bond or currency ETF, or commodity ETF, etc.
Also available are single ETFs that hold multiple asset classes (equities, debt, commodities) that speak to a common theme.
ETFs are different from mutual funds in that these, as the name suggests, are tradable security. That is, you can buy and sell ETFs on the secondary market, not unlike equities. ETFs can lend diversification to your investment portfolio and are liquid.
Not unlike other financial investment products, ETFs also come with a certain level of investment risk. Also, while ETFs are great products if you’re looking to diversify your portfolio, not all ETFs are created equal.
- An ETF with a very narrow theme, and thus less diverse, guiding its composition makes it vulnerable to higher market risk.
- Exposure to a heavy concentration of securities belonging to a single sector or industry could result in sharper losses.
- Taxation is a complicated affair. For example, the tax treatment on gold or other ETFs is different from an equity ETF. Also, as per current taxation guidelines, ETF investors with a less than three-year investment horizon can expect to shell out more tax returns.
Finally, you may familiarize yourself with the fine print on an ETF product and determine your risk appetite and financial goals to understand what kind of ETFs a good fit for your investment portfolio are.
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