The term Exchange Traded Fund (ETFs) refers to a type of investment fund that is traded on stock exchanges. These exchange-traded funds monitor stocks just like an index and trade on exchanges like regular stocks. They are capable of tracking an entire equity index or only stocks within a particular industry. Investors who purchase shares of stock exchange ETF can gain exposure to a wealth of equities and limited company-specific risk associated with single stocks, thereby providing them with a cost-effective way to diversify their portfolios.

Here's why you should invest in ETFs

Research suggests that passive-investment vehicles like ETFs tend to return more than actively-managed vehicles like mutual funds over the long run.

With so many advantages to stock exchange-traded funds (ETFs), it's hardly surprising that fund inflows have surged. Industry analyst ETFGI estimates that there were 7,927 exchange-traded products worth over $6.35 trillion globally at the end of 2019. As of January 2024, the US ETF market had $6.254 trillion in assets under management.

Stock ETFs are typically regarded as highly diversified investments since they provide investors with access to a wide variety of stocks or indices. This immediate diversification is available through the majority of online brokerages and reduces a portion of the irregular risk linked to business stocks. It is a straightforward, affordable, and tax-efficient approach.

Choosing the best ETFs to invest in

You can research the different kinds of ETFs through the website of any major brokerage, such as Fidelity or Charles Schwab. Simply search and select the characteristics that you are looking for in an ETF.

In its Approval Order on the 10th of January 2024, the US Security and Exchange Commission (SEC) approved the listing and trading of several BTC ETFs, marking a significant step in BTC’s integration into TradFi markets. This means that shares in trusts holding BTC can now be bought and sold on SEC-regulated exchanges.

The Grayscale Bitcoin Trust, Bitwise Bitcoin ETF, Hashdex Bitcoin ETF, iShares Bitcoin Trust, Valkyrie Bitcoin Fund, ARK 21 Shares Bitcoin ETF, Invesco Galaxy Bitcoin ETF, VanEck Bitcoin Trust, WisdomTree Bitcoin Fund, Fidelity Wise Origin Bitcoin Fund, and Franklin Bitcoin ETFs are among the ETFs that were authorized by the Approval Order.

As of February 2020, The Investment Company Institute reported that there were 2,086 exchange-traded funds (ETFs) in the United States.

Here's a rundown of 9 common types of ETFs.

1. Passive ETFs seek to mimic the performance of a larger index or trend. The SPDR S&P 500 ETF Trust (SPY), which replicates the S&P 500 index, is one of the most popular kinds.

2. ETFs for foreign markets and countries: Investing in foreign markets is simple with these ETFs. The iShares MSCI Japan ETF (EWJ), which concentrates on the Japanese equities market, is a typical example.

3. Bond exchange-traded funds (ETFs) lack a maturity date and, based on the performance of the underlying bonds, may yield a consistent yield for investors. One of the biggest exchange-traded funds (ETF) in the world, the iShares Core U.S. Aggregate Bond ETF (AGG) provides exposure to a broad range of investment-grade bonds in the US.

4. ETFs for stocks are collections of stocks, including growth and high-performing stocks.

5. Industry/Sector ETFs target a particular sector or industry to provide exposure to the positive returns associated with that industry. These ETFs have a particular industry emphasis, such as utilities, technology, or pharmaceuticals. The KranseShares MSCI All China Health Care Index ETF (KURE), for instance, is concentrated on the Chinese health care market.

6. ETFs for commodities allow investors to purchase commodities without having to pay for physical asset insurance or storage. A broad-based ETF that encompasses energy, metals, and agriculture is the iShares Commodities Select Strategy ETF (COMT). Certain commodity or group of commodities is the only focus of other commodity exchange-traded funds (ETFs).

7. Currency ETFs monitor the performance of specific currency pairs, such as the euro or the US dollar, relative to other foreign currencies.

8. Inverse ETFs use stock shorting as a strategy to profit from market falls. These ETFs concentrate on various investment techniques, including smart beta, alpha, and dividend growth. When the underlying assets lose value, they profit from shorting the market.

9. Leveraged ETFs strive to deliver some multiples on the return of the underlying investment. ETFs with leveraged equities offer gains (or losses) on the underlying assets or index that are doubled or tripled.

How ETFs Track Their Underlying Assets

ETFs are dependent on the efficacy of the arbitrage mechanism in order for their share price to track net asset value.

To guarantee that the share prices of exchange-traded funds (ETFs) mainly mirror the prices of the underlying index or the assets owned by the fund, financial services providers sell blocks of ETF shares (referred to as "creation units") to broker-dealers. Brokers can exchange in-kind assets owned by the fund for cash or purchase these blocks of shares.

An exchange-traded fund (ETF) that experiences high investor demand would see its share price momentarily surpass its net asset value per share. This will incentivize arbitrageurs to buy more creation units from the ETF issuer and then sell the component ETF shares on the open market. The market price per share of ETF shares decreases due to the increased supply, hence removing the premium over net asset value. The market price per share drops as a result of the increased supply of ETF shares, ultimately stripping the premium over net asset value. A similar process applies when there is weak demand for an ETF: its shares trade at a discount from their net asset value.

When there is little demand for an ETF, a similar procedure takes place: its shares are sold for less than their net asset value.

"ETF inflows" are the new shares of an ETF that are created as a result of increasing demand. "ETF outflows" are the term used to describe the conversion of ETF shares into the component securities.

Exchange-traded funds (ETFs) all disclose their net asset value (NAV) at the end of each trading day, just like mutual funds do. To get the ETF back in line with the value of the underlying assets, managers sell or trade creation units when the market price fluctuates too far from the NAV. Because all of an ETF's asset holdings are disclosed to the public on a daily basis, ETFs are very transparent. It is easy to determine exactly what the fund holds because all of its asset holdings are listed on a public basis.

ETFs are particularly transparent since they reveal all of their asset holdings on a daily basis, making it easy to see exactly what the fund owns. This is because all of an ETF's asset holdings are reported to the public every day.

Conclusion

The cost ratios and management fees of a stock exchange-traded fund (ETF) are lower than those of a mutual fund.

With the knowledge of EFTs, investors of all experience levels can use it as a perfect tool to track expenses while generating steady profits.