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FEATURE: What are ETFs?

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18/01/2008

Exchange-traded funds could be a valuable addition to your investment portfolio, but what exactly are they? Barney McCarthy finds out

There are plenty of places you can invest your money, but more people are turning to the allure of the Stock Exchange. Although it can be seen as a risky investment – as always, the value of your investment can decrease as well as rise – it can be lucrative if you know what you are doing and have sound advice.

If you are thinking of investing in stocks and shares, you don’t have to limit yourself to backing the progress of a handful of companies. Exchange-traded funds (ETFs) are index funds that are listed and traded on the Stock Exchange like individual shares, but enable investors to mirror the performance of an index and can be bought and sold at any time during the day.

ETFs are regarded as collective investment schemes, but differ from traditional funds in that they combine the best features of direct securities and collective investments. They can duplicate an index, a market sector such as energy or technology, or a commodity such as gold or petroleum. ETFs represent a viable alternative investment option to traditional open-ended mutual funds.

Past and present

ETFs were first introduced on the Toronto Stock Exchange in 1990, and grew in popularity after they were launched on the American Stock Exchange in the mid 1990s. They made their way over the Atlantic to Europe in 2000 and there are now a host of them listed on the London Stock Exchange, tracking a variety of equity and fixed-income indices. The monthly list published by stockbrokers Charles Stanley shows that there are now over 1,250 individual ETFs traded around the globe.

If you are new to stocks and shares, ETFS may be a good place to start. They are generally cheaper than traditional funds as they do not need to be actively managed, so investors don’t need to employ the expertise of analysts or fund managers. In the UK, you also escape the Stamp Duty charges that are usually incurred on the purchase of London-listed shares. This exemption makes them particularly suitable for Individual Savings Accounts (ISAs).

John Fletcher, analyst for Charles Stanley, says that ETFs offer a quick and easy method of gaining exposure to a wide range of indices, each designed to reflect the performance of a particular asset class. “As funds listed and traded over the stock exchange, ETFs also offer excellent liquidity, with continuous, real-time, bid and ask process available throughout the trading day.”

With new ETFs being introduced almost on a daily basis, there is a growing list to choose from. There has probably never been a better time to give ETFs a try. 

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