Learn about the benefits of ETFs for your investment portfolio.
An Introduction to ETFs
An ETF, or exchange-traded fund, is like a big basket of different investments all rolled into one. It might include shares in lots of different companies or track an index like the FTSE 100. They work a bit like shares on the stock market, you can buy and sell them as you would a share. But, unlike shares in just one company, they give you a little bit of everything.
When I was in University, one of the things we spent the most time on when learning finance was the idea of diversification. It was not until after university that I truly understood why ETFs were such an important product to help individual investors achieve diversification.
To understand diversification, think about two competing firms, let’s say Barclays and Llyods, both established banks on the British high street. If you had one thousand pounds to invest, would it be less risky to put all the money in one of the companies, or split the money equally between the two. The latter is correct in this case and that all there is to it. Think of the individual risks that could cause a large fall of the share price of each company and if you spread this risk between the two of them, your investments become less risky. Now with an ETF, you are not spreading your risk across two companies, but across a number of different companies (sometimes hundreds) in one transaction, therefore making any investment safer in the long run.
How ETFs Help Spread the Risk
When you invest your money, you want to make sure that you’re spreading the risk around a bit. This means that if one investment doesn’t do well, it’s not going to ruin everything. ETFs are great for this because they give you a slice of lots of different things, so if one goes down, it’s not the end of the world. By investing in an ETF that tracks the FTSE 100, for example, you’ll get exposure to the largest 100 companies listed on the London Stock Exchange, which helps to spread the risk across multiple assets.
The Cost-Efficiency of ETFs
Another great thing about ETFs is that they’re generally cheaper to own than other types of investment funds. They’re what’s called passively managed, which means that the people running them don’t have to do as much work as with other types of funds. And because they’re cheaper, you get to keep more of your returns. It’s like getting a discount on your investment!
How to Get Involved with ETFs
Investing in ETFs is straightforward. You can buy and sell them just like shares, so you can use your online brokerage account to trade them. Also, many financial advisors now offer ETF portfolios as an option for their clients. It’s easy to get started with ETFs.
ETFs are a simple and cost-efficient way to spread your investments around and get a little bit of everything. By giving you a slice of lots of different things, they help you spread the risk and keep more of your returns. ETFs are a valuable tool for both experienced and new investors and they are a great addition to any investment portfolio.
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