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If you’re looking for an easy and affordable way to create a diversified portfolio of shares, you might want to consider investing in exchange traded funds (ETFs). ETFs are investment funds made up of multiple shares and other assets that can be traded on a stock exchange.
ETFs have become increasingly mainstream in the last few years thanks to the rise of index fund investing and the simplicity of accessing many local or global shares in one trade. But how do they work, are they safe and how do you invest in them? Our guide covers everything you need to know about ETF investing.
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If you’ve researched the benefits and risks of investing in ETFs and you’re ready to get started, you’ll need to sign up for an online trading account:
An ETF is a low-cost investment fund that can be traded on a stock exchange such as the New Zealand Stock Exchange (NZX). These funds are created by ETF issuers and fund managers and are comprised of a basket of securities such as shares and bonds.
Each ETF is allocated an NZX code and can be bought and sold by investors in the same way that you would buy and sell shares. By investing in ETFs, you can easily create a diversified portfolio and spread your investment across a wide range of asset classes, including New Zealand shares, global shares, fixed income, debt, foreign currencies, commodities and metals.
There are two main types of ETFs in New Zealand:
There are several reasons you may want to consider investing in ETFs:
ETFs are bought and sold just like regular stocks, so you’ll need to choose an online broker before you are able to invest. Alternatively you can use a managed fund, such as SmartShares which has a range of ETFs and requires a minimum of $500 to invest.
Like share prices, the price of ETF units can fluctuate day-to-day. However, many ETFs move up and down in line with the index they are tracking, so there are a few simple tips to keep in mind to help you get more out of your ETF investments:
When you invest in an ETF, the first cost you’ll be aware of is the ETF unit price; however, there are other less obvious costs you need to be aware of, such as the management fees. While ETFs typically charge lower fees than unlisted managed funds, this isn’t always the case.
You should always read the PDS provided by the ETF issuer for full details of any fees that apply and how they will affect your investments. Here are the main costs to take note of:
ETFs are often advertised as being a safer investment than directly buying shares on the stock market, but this is not always the case. Although many ETFs are relatively safe index funds that track major indices, it’s also possible for an index fund to track a volatile global market, such as rare earth metals or the oil market.
You should also remember that technically any kind of asset can be bundled into a fund as well as risky derivative-type products. This means that not all ETFs are passive index funds as you may believe. Always do your research before you invest. Here are some of the main risks to consider:
Synthetic ETFs. These types of ETFs are a little more complex. Not only do they directly own the underlying assets the fund invests in, but they also use derivatives to achieve their desired returns. Derivatives are instruments that derive their value from underlying assets (such as shares or commodities). The main advantage of synthetic ETFs is that they allow you to access investments that may otherwise be too expensive or simply impossible to buy.
Synthetic ETFs have all the same risks as physical ETFs, but they also expose you to a few additional potential problems:
Before deciding whether ETFs are the best investment solution for you, make sure you’re fully aware of how they work and have an in-depth understanding of all the risks involved. Read the PDS closely, ask questions of the ETF issuer if you’re unsure about anything and consider seeking help from a qualified financial adviser.
It’s also possible to trade CFDs with ETFs as the underlying asset. CFDs are contracts for difference, which allow traders to speculate on the value of financial products without owning the underlying asset. For example, traders can purchase a CFD with an ETF as the underlying asset, and speculate if you think the ETF will rise (go long) or fall (go short) in value. CFDs are leveraged products, meaning that the potential returns on your investment are magnified; however, so are your potential losses, and you can lose more than your initial deposit.
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