What are ETFs - Definition & Explanation

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For many potential investors, ETFs are uncharted territory - after all, they are rarely advertised in the traditional banking business due to the low commissions.

ETF funds: What are investment funds?

Investment funds are investments that collect the money of many investors (in so-called funds) and invest it in various assets, for example shares and bonds.

Funds are interesting for investors simply because a broad diversification can be achieved with small contributions. In Germany, investment companies must have at least 16 different securities in the securities account of an investment fund. In practice, many funds consist of over 100 individual securities.

Question: Do you know how robo-advisors are defined? Read our definition here.

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ETFs are exchange-traded index funds

ETF funds are characterised by 2 features in particular. First, they usually track an index (e.g. Dax) passively, i.e. without the intervention of a fund manager. This makes them a subcategory of index funds. However, index funds are usually actively managed investment funds. However, since they are very closely oriented to an index, the differences to ETFs are very small.

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The demand for and supply of ETFs has increased more and more in recent years. Goldman Sachs forecasts assets managed by ETFs to reach 5.4 trillion euros by 2020, which would correspond to a doubling within five years.

The price performance of ETFs can always be read off the corresponding index. Only the annual management fees, also called Total Expense Ratio (TER) or total costs, still have to be deducted.

Unlike classic index funds, however, ETFs are traded on the stock exchange as a second feature. They are therefore not exclusively obtained via the issuing investment companies, but are also traded on the secondary market of the stock exchange.

Tip: ETFs are not a new invention, by the way. In the USA, the first fund based on a stock index was formed as early as 1973 and the first ETF for private investors appeared in 1976.

Question: Do you know what ETF savings plans are? Find out more about how the experts use ETF savings plans: Read now.

Advantages - Just buy ETFs?

It is difficult for investors at https://exnessgroup.org/mt4/ to replicate a complete index by buying individual stocks or bonds. Transaction costs of several euros are incurred each time a share is bought. However, those who invest in an ETF can do so with a single transaction. With ETFs, small investors in particular benefit from the low minimum investments, which start at just 10 euros per month.

ETFs are invested for diverse markets, regions and asset classes (e.g. shares, bonds, commodities). Due to a broader diversification, price fluctuations of individual securities are less important. Each robo advisor sets different priorities when selecting ETFs. Equity funds with a focus on emerging markets are popular investment vehicles.

Transparency

Since ETFs track existing indices, their composition is easy to understand and their price performance is easy to follow.

Tradability

Since ETFs are traded on the stock exchange compared to traditional index funds, it is possible to sell or switch them at any time. Robo advisors usually pursue a passive investment strategy due to the predefined composition of the indices. The management is left to automated algorithms. The ETF is only adjusted if the composition of the index or the investor's risk class changes.

Costs

ETFs are usually cheaper than traditional investment funds. There are generally no front-end load charges. If ETFs are ordered directly from the issuer, there is no stock exchange order fee and only transaction costs are incurred.

Security

ETFs belong to the so-called special assets and are therefore kept separately from the rest of the asset manager's assets. In the event of insolvency, they remain secured. In the case of banks as custodians, the statutory deposit protection also applies, which covers a sum of up to 100,000 euros.

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