Exchanges Traded Funds (ETFs) are one of the most important and timely investment vehicles available to the trader and investor who wants to take control over their own financial future. Here are just a handful of the important qualities of ETFs you should be aware of.
- ETFs have useful variety. No matter what kind of ETF you need for your trading or investing interests, you are sure to be able to find an ETF that’s right for you. You can find ETFs that track:
- broad indices: these are indexes like the Dow 30 industrial average, the S&P 500 index, and the NASDAQ 100. Their symbols are : DIA, SPY,and QQQQ. There are other major indexes like Japan Nikkei (EWJ), the European large-cap 350 (IEV) and the Morgan Stanley European and Asian mature company index (EFA). EFA is a particular favorite of mine because it represents the mature industrial world minus the US.
- major market sectors: these include ETF’s for the nine sectors of the S&P 500 known as the sector SPDRs or “Sector Spiders”. These ETF’s symbols begin with an ax and include finance, industrial, consumer staples, utilities, and technology among others. These are very high volume, very liquid and can be traded with options as well as in direct trading.
- regions of the world: these correspond to different regions of the world markets such as Asia less Japan (EPP), European and Asian mix (EFA), Latin America(ILF), and emerging markets (EEM)
- individual countries: there’re over 30 separate countries with their own ETF. These typically reflect the stock markets of each country comprising the largest capitalized companies. Just to name a few: Canada9EWC), Mexico(EWW) and one of my very favorites Brazil (EWZ). The Brazil ETF is very liquid and represents a country that is quickly turning into the economic powerhouse of Latin America in the Western Hemisphere.
- Business sectors: these include specific market segments such as semiconductors (SMH), utilities(XLU, UTH), regional banks (KRE), US residential real estate (RWR), biotechnology (BBH), medical devices (IHI) to name just a few.
- individual commodities & baskets of commodities: this is been a very hot sector over the last year and the run may be done. Commodities tend to be cyclical and very volatile at the end of long trends. You can either buy baskets like the Deutsche Bank commodities blend (DBC) or ETF that reflect individual commodities such as gold (GLD, IAU) or grains (DBA).
- currencies & currency pair trades: the seven major currencies of the Forex market can now be purchased as ETF’s including the US dollar n(USD). You could even get sophisticated pair trade ETF’s which play the difference between currency pairs. This is sophisticated trading that is not for novices.
- Morningstar style boxes: there are ETF’s the correspond to different styles according to them and MorningStar style box framework such as large-cap value or small-cap growth.
- proprietary fundamental screens: there are even ETF’s that reflect specific investment strategies and hypotheses. These all tend to be very sophisticated strategies and in order not to lead you astray I will refrain from reporting their symbols. It is enough to know that any philosophy of investment or trading can be framed with an appropriate set of ETF’s
- varieties of bonds and income-generating dividend payers: a couple easy ones are long-term treasuries (TLT) and aggregate income that mixes treasuries and corporate bonds (AGG)
- the entire world market.: a simple example is the vanguard total market Index viper (VTI
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ETFs have more transparency. Mutual fund components are effectively screened from public view, so you cannot analyze your current exposure. That can be very important as we saw this week. You’d like to be able to know what your exposure to companies like AIG, Lehman Brothers and Bear Stearns might be at some moment. You can get this kind of information in a timely manner with ETFs (WisdomTree ETFs are especially noteworthy in this regard.
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ETFs are less volatile than stocks: There are times when the day to day fluctuations of price can upset even the sturdiest of stomachs. Because they are blends of multiple stocks or commodities, ETFs have a much smoother price curve than individual stocks.
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ETFs have enough volatility to be tradeable. Even though the price action of ETFs are generally much smoother than stocks that make up their components, there is plenty of price change for traders to be able to frame trades that offer favorable reward:risk characteristics. In a way, you can say that ETFs trade jagged volatility for more smoothly oscillating waves. ETF price waves are more like the long, powerful ocean swells that move for miles in deep water
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ETFs can be compared for purposes of market research. Because there are ETFs that cover the entire world market, as well as business sectors, countries and currencies, it is possible to rapidly assess the condition of the world market by doing a regular comparison of price performance between a set of representative ETFs. Because price rolls up all the variables and market opinions of market participants who vote with their money, ETF price action serves as a barometer for market health and opportunity.
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ETFs can be analyzed using your favorite technical analysis. Because ETFs buy and sell on exchanges just likes stocks, they are subject to all of the technical and fundamental analysis that you use on individual stocks. So the good news is that you don’t have to jettison the principles and techniques that have served you well already. ETFs allow you to leverage you time investment in mastering your niche in fundamental and technical analysis.
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ETFs can be used to construct any kind of portfolio you seek. Sometimes you need a core portfolio to take care of your long term financial goals. Sometimes you need a short term hedge to protect gains in long term holdings that you don’t want to prune or to seize an opportunity caused by a short term imbalance in price and market conditions. Sometime you just need to get money working in a sector now while you prepare to conduct a more detailed analysis of individual companies. No matter what kind of portfolio solution you are looking for, chances are there is a set of ETFs ready made to answer the call.
ETFs are here to stay. The prudent investor will approach them with care and interest to see just how you take advantage of the many favorable qualities they offer to both the trader and the long term investor.