How Exchange Traded Funds Work Part II - Video Tutorial

How Exchange Traded Funds Work Part II - Gaurav Bhola from Garv Financial on Vimeo.

TUTORIAL TEXT

Welcome to Garv Financial. My name is Gaurav Bhola. The tutorial is on “How Exchange Traded Funds Work Part II.”

Benefits of ETF’s

The four main benefits of exchange traded funds, such as advantage over stocks, diversification, the inherent low expense ratios, and tax efficiency.

Diversification
Exchange traded funds are a great way to create diversified portfolios. There are several hundred exchange traded funds that cover every major index, such as NASDAQ, S&P 500, Dow Jones, and more.

Also every sector of the market is covered including large caps, small caps, growth, value, and more. Furthermore, ETF’s offer investment opportunities in regions such as America ,emerging markets, country specific such as India, China, Brazil, and special specific industries such as financial energy technology and niche markets like gold and REITs.

Low Expense Ratios
Exchange traded funds are cost-effective investment options. They give you the benefit of index fund, such as broad diversification and low turnover. ETFs cost much less than index funds in terms of expenses. A typical exchange traded fund has an expense ratio between 5 to 30 basis points while a comparable mutual fund may have a basis of 30 or more.

One important thing is to remember that a low expense ratio can be negated by brokerage commissions, meaning if you do a lot of trading the savings you get by having low ETF expenses are offset by the huge commissions you pay your broker.

Trades like Stocks
ETFs are flexible like stocks and their prices fluctuate throughout the day. Additionally, by purchasing ETFs, you are leveraging the entire market or sector instead of just one stock.

Tax Efficiency
ETF are becoming very popular among tax conscious investors. The unique structure of ETF’s enable large volume trades with the ability to receive in-kind redemptions. But that means as a large investor you can postpone your tax liability by redeeming your ETF for underlying shares of stocks that the ETF tracks.

Moreover, you can choose an ETF’s that doesn’t have huge capital gains distributions or pays dividends, allowing further tax liability management.

Disadvantages of Exchange Traded Funds

There’s some disadvantages to ETF’s. However, the advantages outweigh the disadvantages.
Disadvantages concerned that ETF’s are possible excessive brokerage costs of market pricing of ETF’s, dividend reinvestment plans, and the ability to purchase odd lots.

Brokerage Costs
Each time you trade an ETF, a commission is paid. Once you start paying excessive commissions you start negating the benefits of low expense ratios.

Market Price
Mutual funds prices are determined at the end of the day at Net Asset Value (NAV) as are mutual funds. Meanwhile, ETF prices fluctuate intraday, similar to stocks. However, the ETF price doesn’t reflect the true value of the underlying assets.

Dividend Reinvestment Plans
Exchange trade funds, unlike mutual funds, do not permit reinvestment of dividends.

Odd Lots
You can buy and sell exchange traded funds in odd lots. However, some ETFs may not permit the trade of odd lots, such as Merrill Lynch HLDRs. HLDRs are registered in a different manner than other ETF’s, hence allow trades in round lots only.

Conclusion
Now it is understandable why the popularity of ETFs has been so immense since their introduction in 1993. The benefits of costs of ownership are low and offer immense choice and flexibility in investment areas.

My name is Gaurav Bhola. Thank you, for watching “How Exchange Traded Funds Work Part II.” More financial tutorials are available at GarvFinancial.com.