A Quick Education On ETFs

Posted on September 13, 2010 at 7:19 PM PST by

Exchange Traded Funds, or ETFs, seem to be the latest investment fad. Heavily advertised by their sponsors, the number of available ETFs has grown from nearly 700 to over 1000 since we launched MarketRiders.

The MarketRiders investment strategy is based upon research that show returns are predominantly determined by where your money is invested (your asset allocation). Therefore, investors need a solid allocation plan for all the different types of available investments like US stocks, bonds, real estate, and foreign stocks.

Once you decide upon your allocations (our service helps you with this), ETFs are the building blocks to implement your plan. ETFs are an amazing financial innovation because they give all investors access to the investment strategies of the most sophisticated investors. They are made possible because of super computing technology that enables the instant building and adjustment of baskets of securities for very low fees.

Many ask us: “how is — ETF performing?” The question arises from what we call a “performance” mentality from years of conditioning from Wall Street. If you have an ETF that mimics the S&P 500, then why ask how it did? Just look at how the S&P 500 did.

We recommend ETFs that are the best “index” for a particular asset class. In evaluating ETFs, we ask: if we look back 20 years from today, will this particular ETF accurately capture the performance, after tax, of its index? Nearly all of our recommended portfolios include a Vanguard Emerging Markets ETF (VWO) that was up over 76% in 2009. We aren’t geniuses for having recommended it. It was up because the 28 emerging market economies (Brazil, Russia, India, China etc.) were up almost exactly 76% last year. VWO did a good job mirroring this performance.

For MarketRiders we only require 20 ETFs to make our recommendations. The ones we recommend, you can hold and rebalance for a very long period of time and achieve the best after tax returns. Here are a few articles to dramatically increase your understanding of ETFs in 10 minutes or less.

Wall Street Journal: How to Choose an Exchange-Traded Fund

Morningstar: ETF Solutions

Index Universe: What is the ETF Creation and Redemption Mechanism?