Some Frequently Asked Questions

What are Exchange-Traded Funds (ETFs)?

Exchange-traded funds (ETFs) are baskets of securities that trade throughout the day like stocks on an exchange. They are highly transparent investment vehicles that provide lower-cost exposure to a host of domestic and international asset classes. Normal Brokerage commissions apply. The Securities and Exchange Commission defines ETFs on its site, www.sec.gov/answers/etf.htm, as does the Investment Company Institute, www.ICI.org.

ETFs are subject to risks similar to those of stocks, including those regarding short-selling and margin account maintenance.

How do I buy or sell ETFs?

ETFs, which trade like stock on just about every exchange in the U.S., are bought and sold like stock through a broker. Brokerage commissions usually apply when ETFs are bought or sold.

What is the minimum size purchase of an exchange-traded fund?

Investors can purchase as little as one share.

Why invest in an index?

An index fund, such as an ETF, passively tracks an index, aiming to match the performance of that index. As a result, investors who buy ETFs receive instant, diversified exposure to a plethora of stocks in an asset class, sector or style. For example, investors looking to buy exposure to the U.S. market can purchase shares of the SPDRs (Standard & Poor’s Depositary Receipts), which tracks the S&P 500 index.

With over 500 ETFs currently trading in the U.S., investors can choose from a host of domestic and international; bond, equity, and commodity; value and growth; broad and narrow ETFs.

What are the benefits of ETFs? ETFs offer several advantages:

The unique "exchange-traded" structure offers several advantages to ETF investors:

  • ETFs tend to be lower-risk investments than individual stocks or bonds because they hold diversified baskets of securities. In addition, ETFs are more transparent than mutual funds (because they disclose their holdings daily) and are not subject to style drift (because they are passively managed).
  • ETFs instantly diversify an investment portfolio in one, easy trade.
  • ETFs are listed on major exchanges, allowing investors to buy and sell them at stated market prices. In contrast, the price of traditional open-end funds is determined once a day at market close.
  • ETFs can be sold short (and can be used to short an index) thereby providing extra flexibility for hedging or market-timing strategies. They can also be sold on margin, and bought or sold with stop orders and limit orders.
  • ETFs have some of the lowest expenses of any registered investment products, and their expense ratios are significantly lower than those of traditional mutual funds. ETF expenses are deducted from daily net asset values, which may lead to underperformance over time relative to their benchmarks.
  • ETFs are bought and sold like stock through a broker.  While they do not have sales loads, standard brokerage commissions apply.

How much do ETFs cost?

There are a number of factors that affect the cost of an ETF, including the price of its exchange-traded shares, its expense ratio (or annual management fee), and the brokerage commission charged to buy the fund.

Can ETFs be purchased on margin?

ETFs may be purchased on margin and are subject to the same terms that apply to common stocks. Investors should contact their brokers regarding initial and maintenance margin requirements.

Can ETFs be sold short?

All ETFs can be sold short, which means investors can sell borrowed shares in anticipation of lower prices. Investors are required to hold the borrowed securities before selling short.

Is there a sales load on ETFs?

While ETFs are not subject to sales loads, standard brokerage commissions to buy and sell securities apply.

Are ETFs liquid investments?

Yes. The liquidity of an ETF is largely determined by the liquidity of its underlying securities. As a result, it is possible for ETFs with low trading volume to be liquid.

Do ETFs pay dividends?

The dividends received from underlying stocks in an ETF portfolio are distributed to ETF shareholders. The frequency of dividend payments can be quarterly, monthly, or annually, depending on the ETF.

What indexes do ETFs track?

ETFs track the performance of a variety of broad-based and narrow, international and domestic, and stock, bond, and commodity indexes.

What’s the difference between the market price and NAV of an ETF?

Net Asset Value (NAV) is the fund’s total assets minus its liabilities, whereas market price is the quoted price of an ETF trading on an exchange. There are times when the NAV and market price of an ETF will diverge, but it is rare.