Stock markets offer the possibility of investing in alternative instruments that have different characteristics from traditional assets and that can also be traded during the trading hours. This is the case with Exchange Trade Funds, but what exactly is an ETF? Find out below how they work and the qualities that have popularized them over time.
What is an ETF and how does it work?
An ETF is a listed investment fund that brings together the characteristics of investment funds and stocks, as it can be bought or sold just as in the stock market and without having to wait for subscription or redemption as it would be done in a fund . This product works as a basket that brings together financial assets and indices, and at the same time replicates their prices.
Although the National Securities Market Commission (CNMV) indicates that ETFs are within the category of Investment Funds because they are diversified, the main difference between the two is that the market price in the former is established in time real and in seconds is the end of the day.
Characteristics of ETFs
- Liquidity: This characteristic is determined according to the type of financial instrument that the basket contains. For example: ETFs of variable income assets such as stock indices are usually very liquid thanks to the fact that they replicate the behavior of the prices of the shares that compose them.
- Market exposure: ETFs expand market exposure because they allow the operation of assets belonging to the same country, sector or mixed.
- Flexibility: These products can be bought and sold at any time, during the trading session.
- Participation value: These instruments replicate a fraction of the price of the set of financial assets, due to the fact that the participation value is lower and the commissions are also lower.
- Evolution: The evolution of the price of ETFs is equal to the assets that compose them, for example: if a stock index grows 2% on the day, the ETF of that index will also grow at that same percentage.
- Arbitrage: At times when the price of ETFs deviates from the price of the indices, the fund manager usually performs arbitrage operations to reduce that difference.
ETFs vs. Stock indices
When wondering what an ETF is, it is important to differentiate them from the stock market indices, since they both group a certain number of stocks. However, there are distinguishing factors:
- ETFs tend to be cheaper than stock indices, because they have a smaller share of the market.
- Index ETFs replicate the prices of the shares that compose them, without the need for all of these to list their values in the same index. This means that an IBEX 35 ETF can compose Iberdrola shares listed on the Milan stock exchange and not on the Madrid stock market.
- Unlike stock indices, ETFs also track the prices of assets belonging to commodities, currencies, or fixed income instruments.
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Advantages of Listed Investment Funds
- Diversify the investment portfolio: These investment vehicles diversify portfolios, since they replicate the prices of a specific basket of assets.
- Low costs: Unlike other traditional assets, ETFs tend to be cheaper.
- Risk coverage: Some ETFs allow you to hedge the risks of operations, especially those that are inverse.
Where are ETFs traded?
A point to highlight about what an ETF is, is that the shares of this product are issued in the primary markets of the world stock exchanges , to then be quoted in the secondary markets that are the spaces where investors carry out their stock operations through intermediaries. ETFs also provide the ability to execute intraday trades .
Now, contracts for difference (CFDs) are an option that offers the possibility of trading baskets of assets such as stock indices and ETFs. Such is the case of ROInvesting, which has a portfolio of commodity ETFs to be traded, with financial leverage and with the advantage of being able to open bullish and bearish positions on these underlying assets.
CFDs are diversified contracts that also allow entry to other types of equity markets such as currencies, cryptocurrencies and stocks, and that do not need intermediaries to be traded since positions are opened and closed on trading platforms in line.
How does a reverse ETF work?
There are inverse ETFs that serve the function of replicating the opposite movements of a basket of assets in the stock markets and other OTCs. This means that, if the performance of an index has been negative, the opposite ETF will replicate its value in a positive way, allowing speculators who have taken bullish positions to generate results in their favor. The same thing happens in the opposite way.
Inverse ETFs can carry risks due to the high volatility of their component assets. In the case of currency ETFs, the risk lies in the value of the exchange rate and its price dynamics.
Diversify your portfolio with CFDs at ROInvesting
CFDs are diversified products that allow you to operate in equity markets, without the need to participate in world stock markets. The advantages of this type of contract is that its access is easier since people only have to register on regulated trading platforms to start their operations in the markets through the internet.
ROInvesting as a trading platform has a wide range of underlying assets, including ETFs, so that they can be traded on their real price by beginner and expert traders at any time.
Some advantages of belonging to ROInvesting are:
- Portfolio Diversification: We have over 250 underlying assets that you can use to diversify your portfolio. You can choose between volatile and less risky instruments to hedge your operations.
- Financial leverage: Leverage works to increase the value of your deposits depending on the type of account and financial asset you choose, amplify your trading volumes, and diversify your portfolio. Leverage for commodity ETFs goes up to 1: 125.
Leverage is a risk tool that amplifies fees and losses. For this reason, before entering the markets it is preferable that you carry out the respective technical and fundamental analyzes and develop strategies in accordance with your risk sympathy.Market education : ROInvesting has extensive educational material that will help you learn more about what an ETF is and other aspects of financial markets. We have educational articles, e-books, tutorials, webinars, and video material at your disposal.