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Written by Value Seeker
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Thursday, 20 September 2007 |
Most novice investors are eager to beat the market by buying hot stocks or top mutual funds. Most of the time, they should just consider buying an ETF instead.
The emergence of exchange traded funds (ETFs) has been a godsend to beginner investors. These funds do an excellent job at tracking their benchmarks and, in general, have very low expense fees.
Most mutual funds underperform the market, and most novice investors do not have the knowledge or time to be able to pick stocks well. Because of this, ETFs make sense for these types of investors. ETFs will not “beat” the market since they are market, but most beginner investors lose to the market if they attempt to beat it via picking stocks or mutual funds. ETFs can be grouped into three categories:
Mainstream ETFs
There are a few very popular, actively traded ETFs. These ETFs track the popular market indexes, such as the S&P 500. These ETFs also boast very low expense fees; most of the S&P 500 trackers (such as SPY and IVV) have expense fees of .10% or less. Yes, that means for every $10,000 you invest, you pay just $10/year in fees, much lower than the $100-$150 you would expect to pay in fees to a no-load, low-fee mutual fund. Some other big ETFs are QQQQ (Nasdaq 100 index), IWM (Russel 2000 Index), and DIA (Dow Jones Industrial Average).
Minor Index ETFs
The second group of ETFs are still fairly popular, but not nearly as actively traded as ETFs such as QQQQ and SPY. These ETFs are often foreign market ETFs, such as ETFs that invest in emerging markets (ADRE), South Korea (EWY), Austria (EWO), or Singapore (EWS). There are also ETFs that invest by “style” and market capitalization, such as a small cap value ETF (IWN). Also, there are ETFs that invest by sector, such as a health care ETF (VHT).
Exotic ETFs
There are a variety of exotic ETFs out there that were developed more for expert investors. Examples include the “inverse” ETFs which seek to perform well when the market goes down. For example, SDS aims to achieve double the inverse of the daily return of the S&P 500. So if the S&P 500 goes up 1%, the ETF goes down 2%. There are other leveraged ETFs as well. For example, SSO aims to achieve the opposite effect of SDS; it aims to double the daily return of the S&P 500. So if the S&P goes up 1%, SSO goes up 2%. Of course, if the S&P goes down 1%, SSO goes down 2% as well.
There are a wide variety of ETFs out there. If you wish to just track the market inexpensively, go for a S&P 500 ETF. If you think a sector might be hot, consider buying an ETF in that sector. It’s often a cheaper and more effective way than investing in a sector mutual fund or picking stocks yourself.
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