Should ETFs Be Part Of Your Investment Strategy?

What is an ETF, and how should you use one in your portfolio?

Exchange Traded Funds (ETFs) are one of the fastest growing investment choices for Canadians. According to the latest BMO Canadian ETF Outlook Report, in 2013 the industry grew by almost 12 per cent with assets of more than $63 billion.

What Is An ETF?

ETFs are a good alternative to mutual funds as they have lower fees and broader options. Generally management fees for an ETF are lower than one per cent. The industry continues to grow and this year is expected to add a number of options for Canadians. Here’s what ETF investors should know.

History Of The ETF

ETFs were first introduced to investors in the late 1980s. The first fund to track the Standard and Poor’s 500-index fund was made available in 1989. Around the same time, the first Canadian ETF was introduced as a low cost way to track the top companies on the Toronto Stock Exchange. Today there are more than 250 ETF choices in Canada and more than 4000 worldwide. They trade on more than 50 stock exchanges around the world.

ETFs vs. Mutual Funds

Mutual funds have been around for more than 200 years, but have been particularly popular for investors since the 1980s. They’re geared at investors who don’t want to pick individual stocks. In a mutual fund, there is a pool of stocks, bonds and other investments chosen by a team of fund managers. Depending on the level of activity the fees can be very high in order to pay those who are managing these funds.  ETFs are much simpler in their investment technique; for example an ETF that follows the TSX will have stocks in its portfolio that, to the best of its ability, follows the performance of the exchange. Management fees are low as the purpose of the fund is more easily executed.

Canadian ETFs For The Choosing

Investors have a buffet of choices. From investing in the oil sector, to water infrastructure and bonds, there are ETFs to suit everyone’s risk appetite. The heavyweights in this industry are iShares, BMO Exchange Traded Funds, Horizon Exchange Traded Funds and Vangaurd. All companies offering ETFs have open and detailed reports about what each fund holds, its performance, expert outlook, distribution and the fees associated. It’s highly recommend that each investor read and fully understand the fund before they invest in it.

ETF Drawbacks

Like all investments, ETFs are not for everyone and they’re not created equally. There are a number of leveraged ETFs that are volatile and, for an inexperienced investor, can be risky.

For example some leveraged ETFs provide twice or three times the daily return on commodities such as oil, gas and gold. If the price of these commodities rise, the fund gives twice or three times the return, but it takes loss at the same rate when the price falls. These ETFs may suit investors who are well versed on a certain industry and willing to watch their portfolio daily, but for others they can be a dangerous way to lose a lot of money very fast. With experts expecting a volatile 2014 leveraged ETF investors should be extra cautious where they put their money.

Using ETFs For Your RRSP

With the RRSP deadline fast approaching, many might be rushing to get in their last minute contribution. Investment options for those with money in their RRSP are constantly evolving. BMO expects Canadians will have more fixed income ETF options this year. These are a good choice to anyone who is risk averse and looking to grow his or her money slowly over time. There will also be a greater focus on ETFs that provide income and growth potential slowly over time and unhedged ETFs that will help Canadians gain, even when our Loonie falls in value.

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