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Why Beginner Investors Should Start With ETFs

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Why Beginner Investors Should Start With ETFs

ETF stands for Exchange Traded Funds. Its a basket of investments bundled into a fund which you can buy and sell via stock exchanges (similar to trading stocks). ETFs aim to track the performance of their underlying index. The underlying index can be a stock market, a group of global stock markets, or an industry sector. Its also possible to find ETFs with an underlying index tracking bonds or commodities.

There is an endless supply of financial acronyms out there and it can sometimes get confusing, but every investor should know what an “ETF” is. ETFs are a great starting point for beginner investors to build a portfolio that will last a lifetime, and it’s easier than ever to get started.

Best ETFs to Invest In

Beginners should start with ETFs tracking a broad-based US index such as the S&P 500.  The S&P 500 index contains the 500 largest companies in the United States, and includes big-name companies such as Apple, Microsoft and Google. By investing in an ETF tracking the S&P 500 index you can achieve the average returns of the entire US stock market with a single investment, without facing the challenges and risks of investing in individual stocks. The key advantage of investing in ETFs over picking individual stocks is diversification. Over the long run, diversification reduces your overall risk without impacting your returns.

Warren Buffet is an advocate of investing in index tracking funds for long-term returns. “Consistently buy an S&P 500 low-cost index fund. I think it’s the thing that makes the most sense practically all of the time.” Buffet says. The market is difficult to beat by investing in individual stocks or even investing in an actively-managed mutual fund (especially after considering the fees). In short, as a beginner you’re not likely to beat the market, but you can match the market’s returns with broad-based index tracking ETFs.

How Much Do ETFs Cost?

Due to heavy competition in the ETF industry, there are many ETFs you can buy without having to pay any commission at all. Customers have access to a wide range of ETFs and there’s something for everyone, from broad-based US stock ETFs (iShares S&P 500) to niche investments (iShares MSCI Emerging Markets). In addition, today theres ETFs for tracking alternative assets such as precious metals, commodities, and foreign exchanges which in the past would have been difficult to do.

How to Diversify

As you become more experienced, you may want to invest in a specific sector of the market (for example the technology sector). You could try stock picking a few companies within that sector, but a better strategy would be to invest in an ETF that tracks the entire sector. By choosing to invest in an ETF over picking individual stocks, you’re protected against the volatility that individual companies within the sector may be subjected to. In addition, you’re only making one transaction instead of several transactions to gain exposure to the sector. By doing this, you will save you a lot of money on brokerage fees.

Related: A Guide to Investing with Robo-Advisors

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