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What are ETFs – How do Exchange Traded Funds Work?

ETFs are becoming popular because of their simplicity, cost-effective approach to stock market investing. Simply, ETFs are a low cost means to gain exposure to the stock market. But what exactly are the ETF? How do ETFs work…Is it good to invest in ETFs? πŸ€”Let us see.

What are ETFs?

ETFs are a popular online investing choice nowadays. Exchange-Traded Fund is a pool of different securities that operates much like mutual funds but is tradable on stock exchanges. Under the Exchange-Traded Fund, funds and financial resources are pooled together to purchase monetary assets such as shares, debt, securities, bonds, and derivatives.

How do ETFs work?

Under Exchange-Traded Fund, the fund provider owns the underlying assets and designs a fund to track the performance, and sells shares in the designed fund to investors. The shareholders or investors will own a portion of the ETF but will have no ownership of the underlying assets in the fund.

As the name suggests, ETFs are funds that trade on exchanges, usually tracking a specific index. When a person chooses to invest in ETFs, they get a bundle of assets that they can buy and sell with low risk and exposure involved. Investing in ETFs also helps the investor to diversify their portfolio.

For a better understanding, here’s how ETFs work

  • These are bought and sold, just like a common stock on the stock exchange.
  • ETFs experience price changes, just like stocks, throughout the day.
  • ETFs are a pool of tens, hundreds, and sometimes thousands of bonds or stocks in a single fund, just like mutual funds.

Why invest in ETFs?

As an investor, if you’re looking for a tax-efficient and affordable way to access a range of assets, you should consider investing in ETFs.

βœ”οΈ Here are some reasons why ETFs may work for you:

  • Diversification of portfolio
  • Lower operating costs
  • Flexibility in trading 
  • Tax efficiency

What are different types of ETFs available?

βœ”οΈ The most common types of ETFs in India are:

1. Equity ETFs

  • Sensex/Nifty
  • International ETFs
  • Multifactor ETFs
  • ESG ETFs
  • Shariah ETFs
  • Sectorial ETFs (Banking, Infrastructure, IT & Consumption)

2. Debt ETFs

  • Government Bond ETFs (Gilt)
  • PSU Debt
  • State development loan
  • Liquid ETFs

3. Commodity ETFs

  • Gold ETFs
  • Silver ETFs

Advantages of investing in ETFs

ETFs have lower operational costs; for eg, it can be quite expensive for an investor to purchase the stocks held under an ETF portfolio. Under ETFs, an investor needs to make one transaction to purchase and one transaction to sell off an ETF, which results in less broker commissions. ETFs are passively managed funds.

βœ”οΈ The following are some advantages of investing in ETFs:

  • Access to multiple stocks across the market
  • Lesser expense ratio and fewer broker commissions involved
  • Diversification helps in risk management 
  • ETFs are more tax-efficient as comatose to mutual funds
  • These are passively managed funds
  • Flexibility in trading is available under ETFs

How do you invest in ETFs?

To invest in ETFs you need to open Demat account with a trusted online stock broker. Also, following investment advice from experts is the perfect thing to do but doing your own research is very important.

Start today, start slow and build your wealth gradually πŸ˜ƒ

Take Away

A good reason to consider ETFs is that they help an investor create a diversified portfolio. Moreover, they provide benefits like reduced charges, flexibility in trade security, and tax benefits. The blend of diversification, low operating cost, and flexibility that is offered under ETFs make them one of the most useful investment options.

You can also read: Difference Between Mutual Funds and ETFs

Here are some more insightful tradinginvesting and personal finance that will give you walk you through the basics of stock market and help building of strategies in online trading & much more.

Happy Investing πŸ˜‡

Disclaimer: This blog is not to be construed as investment advice. Trading and investing in the securities market carries risk. Please do your own due diligence or consult a trained financial professional before investing.

Ashish Thakur

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