Turned off by mutual funds but like the idea of investing in a packaged product that's designed to track an index or sector? Consider exchange-traded funds, or ETFs.
ETFs are like an index fund and closed-end fund combo. Each represents a basket of various indices—from ones that track the S&P 500 to international and sector indices—and trade as stocks do, all day long.
What makes ETFs popular, even while requiring investors to pay a commission when buying or selling shares of them? "They're a great low-cost, tax-efficient alternative and now come in a variety of flavors," says Jeff Tjornehoj, a research analyst at Lipper. Unlike mutual funds, ETF annual expense ratios are a fraction of those on open-end funds, typically running less than 1 percent. Plus, they're sans sales charges and 12b-1 fees.
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The downsides? ETFs aren't for active day traders or investors who practice dollar-cost averaging. Why? The commissions can take a big bite out of returns, warns Tjornehoj, "even if you're making cheap $8 trades."
Dian Vujovich is an author, syndicated columnist and publisher of fund investing site www.fundfreebies.com.
Originally published in the August 2004 issue of Entrepreneur Magazine