An exchange-traded fund (ETF) can be a great entry point into the stock market for beginner investors. ETFs are funds that may include several asset types, such as equities, commodities, or forex. A fund, for example, that tracks the S&P 500 index holds the 500 stocks that constitute the index. The funds are issued by asset management companies. You can learn about them in detail in our article on ETFs.
Exchange-traded funds are popular with beginner investors because most ETFs carry lower risk than owning individual stocks and provide broad market exposure. ETFs also provide a great opportunity to diversify your portfolio, as they offer a range of investment opportunities and high liquidity at a low cost.
It is good to know that ETFs are different from traditional mutual or index funds. ETFs are more flexible and lower-cost than index funds or traditional mutual funds that pool investment and are managed by professionals. ETFs represent a basket of assets that are traded on the exchange like a common stock. ETFs can be traded during the day just like stocks, while mutual funds are only traded at the end of the day. (You can learn more about index funds here.)
ETFs are shares traded on the stock market. An ETF can be traded on several stocks exchanges, so choose the stock exchange with the lowest commission, which depends on your broker.
Key points on trading ETFs
- Investors can buy and sell ETFs during market hours.
- Depending on how often you trade ETFs, trading fees can quickly add up.
- Be aware of the ETF’s expense ratio: this is basically a percentage-based fee that investors are charged, which covers portfolio management, administration, and similar costs.
- Follow the news as economic and social instability will play a role in determining market volatility and the success of any ETF that focuses on a particular region, or specific sector.
- You need to make sure an ETF you invest in is liquid. If an ETF is illiquid, the spread between the bid and ask price is large.
- ETFs pay dividends: how regularly depends on the type of ETF you have.
- Try to use limit orders as much as possible with dealing with an ETF. This lets you set the price at which you buy or sell the ETF.
A lot depends on your investment strategy and when you trade ETFs. Knowing when to buy and sell them is not an easy decision, and you need to learn before you master the timing. So if you are a beginner, tread carefully.
Below are some tips that help you decide when and how to buy ETFs.
When to trade ETFs?
Trading is best avoided close to when the stock markets open and when they close. Stocks can be very volatile at the start based on the news from the previous day, and at the end of the day you may also experience some large price swings. The spread in an ETF’s intraday price and its net asset value can be the largest at the market's opening and closing time. The best time to trade is in the middle of the day.
Some day traders like to focus on the morning as volatility and volume on the stock market tend to decrease later in the day.
Stock prices usually rise at the turn of the month, as money flows toward mutual funds at the beginning of the month. Stock prices tend to fall in the middle of the month. Therefore, a good time to buy would be mid-month and sell at the beginning of the month.
It is recommended for an investor to rearranges their portfolio once a year, and rebalance it if necessary. This is also a good opportunity to rethink your ETF portfolio.
Watch out for an ETF’s volatility
Watch out for volatility: it could happen that a particular day seems very volatile due to some economic news or any disturbing event causing the underlying asset’s price to fluctuate. You might want to stay away from the market when prices are on an unpredictable roller-coaster.
Decide how often to trade an ETF
The cost of buying and selling ETFs is also impacted by how often trades are executed and the commission costs associated with each trade. These costs can be controlled by limiting the number of trades and choosing a brokerage account where ETF costs are moderate. Here is a list of the best ETF brokers based on our detailed analysis.
Investors who like to invest a fixed amount on a regular (monthly or weekly) basis might instead choose an index mutual fund, rather than an ETF.
Use limit order and stop-loss orders
For buying and selling ETFs, consider using limit orders. A limit order sets the exact share price at which you are willing to buy an ETF. This carries the risk that the ETF’s price increases in the meantime, but you can then change the limit price. If you are unsure about the order types you can use, check out our article here that explains them in detail.
Traders can use a stop-loss order to protect profits on their ETF trades. However, long-term investors should not use stop-losses as investors have a very bad track record of timing the markets.
What else do you need to know about ETFs?
Want to know more before deciding which is the best ETF for you? Check out these articles to deepen your knowledge:
- What is the difference between mutual funds and ETFs?
- What is the difference between US and EU ETFs?
- What does an ETF portfolio mean?
- What is an ETF expense ratio?
- How to invest in ETFs?
- How liquid are ETFs?
- How to buy Vanguard ETFs?
- How to buy iShares ETFs?
- What are sector ETFs?
- What is passive investment?
- Are US ETFs only available for US residents?
- How to choose your ETF
How can I buy ETFs?
For more info, click here to learn how to buy ETFs online.