In recent months, there has been a recent movement out of actively managed investments into passively managed instruments such as exchange-traded funds. Globally, ETFs gained more than $270 billion in 2016.
An ETF is a single investment vehicle that tracks all of the securities within an index, a commodity, bonds or a group of assets like an index fund. It’s similar to a mutual fund, but an ETF’s price will fluctuate throughout the day as it trades like a common stock on a stock exchange. A basic ETF generally charges a lower fee than most mutual funds because it is not actively managed.
With lower fees and expense ratios, plain index fund ETFs generally outperform mutual funds.
However, there is a growing market of Smart Beta ETFs that charge relatively higher fees. Smart Beta ETFs also follow an index but may use a different weighting strategy to focus on specific technical and/or fundamental factors such as size, value, momentum, volatility and profitability. In 2016, Smart Beta ETFs gained more than $40 billion in new assets in the ETF market.
One reason the ETF format has gained popularity is its ability to focus in certain sectors or investor objectives. For example:
- Fixed income ETFs are designed for investors who may seek a potentially greater yield in the wake of rising interest rates.
- Volatility-managed ETFs expose investors to a specific asset class with risk-mitigation strategies.
- New “theme”-based ETFs focus on small niches of the market, such as cloud computing or airlines.
It’s important to consider any investment within the context of your own goals, risk tolerance, investment timeline and the composition of your overall portfolio. All investments are subject to risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values.
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