Trillionaire Term of the Day - February 4, 2009 - ETFs

Exchange Traded Fund (ETF)

In order to have a solid understanding of Exchange Traded Funds (ETFs) you must have a good grasp on Indexes. If you aren’t sure what an index is, or how indexes are created and run, feel free to check out our Trillionaire Term of the Day on Indexes (January 9, 2009).

An index is a group of securities, such as stocks or bonds. An Exchange Traded Fund is basically all of the stocks that are in an index grouped into one tradable stock. You can buy and sell ETFs just as you would buy any other company’s stock. Simply put, an ETF is a representation of all of the individual stocks that you would find in an index.

Take SPDRs (SPY) as an example. This particular ETF tracks the S&P 500, which is a benchmark index for large cap U.S. stocks. Investors buy and sell SPY when they see value or a lack of value in the S&P 500. PowerShares QQQ (QQQQ) is another ETF, and this fund holds all of the stocks in the Nasdaq-100 Index (e.g. Apple, Intel, Amgen, etc…).  So, when you buy QQQQ, you are basically buying a little bit of each stock in the Nasdaq-100.

Adding an ETF to your portfolio is a great way to diversify quickly. One share of an ETF essentially contains the all of the different shares in an entire index, so when you invest in an ETF, you’re investing in numerous distinct companies.

 

Matt Schwartz

-College Trillionaire