Everything you need to know about ETFs
For a simplified, diversified, and relatively low-cost form of investment, Exchange Traded Funds may be a great option for many. Exchange Traded Funds (or “ETFs” for short) have grown in popularity over the past few decades, as investors have flocked to low cost, passive forms of investing; no longer convinced the higher fees charged by active mutual funds were worth it. Even if you’re new to investing you may have heard the term thrown around. A few questions might come to mind: “What are ETFs?”, “How do they work?”, “Are ETFs right for me?”, “How do I choose an ETF?” and for our Muslim readers, “Are ETFs Halal?”.
This brief article aims to cover those questions as simply as possible. We’ll also take you through a few steps in how to invest in an ETF and some of the different types available.
What’s an ETF?
We’ve spoken a little bit about mutual funds already [link to article] but to brush up, a fund is a collection of investments. It’s an umbrella for a variety of assets that can be managed in a number of ways. When you purchase a share in a fund you are investing in all the holdings that fund represents.
As the name suggests, an Exchange Traded Fund is a kind of fund whose shares can be traded in a similar way to stocks. Stocks represent individual companies whereas ETFs represent collections of assets.
The way ETFs work is as follows: a provider decides on the assets that comprise the fund which investors purchase shares in. Those shares can then be traded on an exchange. Like Index Funds, ETFs operate by tracking a market index (a catalogue of investments representing part of the market) and buying stocks represented in that index. As they are largely automated, ETFs come at a very low cost for investors relative to traditional funds.
ETFs come in all shapes and sizes. As there are numerous categories of funds, there are also different kinds of ETFs consisting of different commodities. Here are just a few examples you’ll likely come across:
Stock ETFs are the most common kind you’ll hear about. As we’ve already established, they are essentially baskets of stocks purchased from a particular index. Stock ETFs usually comprise a mix of stocks of varying track records (i.e. those that have a history of performing well) and those that show potential. As the investment is spread across all the holdings in the given fund, Stock ETFs carry a lot less risk than individual stocks.
Commodity ETFs deal in physical commodities or “real assets” such as gold or natural resources. Commodities have traditionally been difficult to access for the average investor due to the cost of owning physical assets, as well as the logistical issues they carry (storage etc.). Commodity ETFs offer a relatively inexpensive alternative where investors don’t own the commodity but purchase a share in it.
Currency ETFs track the performance of currencies domestically and internationally. They can be used to gain a picture of how well a currency will do based upon a country’s economic and geopolitical standing.
Why invest in ETFs?
There are a number of pros and cons to ETFs and they may differ depending on the individual investor and their goals.
In terms of pros…
- ETFs are a far more affordable option compared to more conventional funds, as there’s less need for human involvement in managing them. ETFs are an opportunity for investors from all walks of life.
- They’re easier to trade on a regular basis which can be advantageous for those looking for quicker returns.
- ETFs expose the investor to a wide variety of assets, which can give you more diversification for a lot less work. This also means that investors from low income backgrounds can invest in assets they might otherwise have been unable to afford.
- They’re major time-savers. All the heavy lifting is done by the managers and tracking systems so you don’t have to stress about the intricacies of the fund.
As for cons…
- ETFs will follow trends in the market. As they comprise far more assets than individual stocks, downward trends in those assets means a downward trend for the ETF.
- They carry management fees and trading costs which stocks don’t require. Though these fees are typically quite low, they should be taken into account when considering your investment goals.
- The returns are usually small and so they require long-term investment. This would be fine for passive investors but for those looking to make the most gain in a short amount of time, it’s rare that an ETF will provide this.
Despite all this, ETFs are a great way of getting into the investment and trading scene. While independent stock trading can indeed be a lot more profitable, ETFs offer greater security, significantly lower risk and demand far less attention and research on the part of the investor. They are a hands-off means of generating wealth and provide an affordable option to people who cannot access riskier or more expensive investments.
How to invest in ETFs
The simplest way is to look for a robo-advisor and open an account through an investment app. The idea is that the robo-advisor will do most of the heavy lifting for you. Their portfolios are built on ETFs which cuts out additional research on the part of the customer. Robo-advisors also cover the trading side of things, so you won’t have to do much beyond keeping an eye on your account. The biggest task in all of this is comparing and reviewing which advisor is best for you.
A more hands-on approach would involve opening a brokerage account. This is for those looking to trade themselves. Before you can trade ETFs on an exchange you need a brokerage account which can be set up online. Trading fees and account minimums will depend on the chosen broker.
From there it’s a matter of research. When choosing an ETF you should do your due diligence in screening it against several criteria. Here are a few you should consider:
Goals: This is something you’ll come back to time and time again while weighing your financial decisions. Before making any investment you have to consider why you’re investing. Where do you want to be in the next 5-10 years? What do you want to put your money towards? This will help give you an idea of whether an ETF is right for your financial objectives.
Costs and fees: Before buying you need to consider how many shares you can afford within a given ETF. It’s also good to compare commission fees (or lack thereof) between ETFs.
Performance: Looking at an ETF’s track record and how frequently its shares are traded can be incredibly helpful in guiding your decision.
Holdings: Make sure you are familiar with the assets represented in the ETF. What does the ETF deal in? Are the companies, commodities and other holdings profitable and are you comfortable with investing in those holdings?
Are ETFs Halal?
Put simply, it depends.
It depends on what the fund consists of and what kind of ETF you are investing in. This entails looking at all the holdings within a given fund and assessing whether or not they are halal. What kind of businesses are represented within the fund? Do they deal in any impermissible trades (alcohol, tobacco, gambling, pornography etc.)?
Are the assets interest-bearing? These are just a few questions that need to be considered when screening an ETF to verify whether or not it is Islamically permissible.
Though it could feasibly be done individually, for the ordinary investor it can be incredibly difficult to screen funds in this way, hence the best option would be to look for Halal-certified ETFs- i.e. ones that have been screened and approved by scholarly experts in Islamic finance. With this approach the investor can avoid the need to individually screen an ETF’s holdings and can instead look for reputable institutions and authorities in halal financial matters. The good news is that there are a number of Halal-certified ETFs already on the market.
Among them is Wahed’s own ETF, the first of its kind. It’s listed on NASDAQ which is the second largest stock exchange in the world. Wahed Invest is listed on the FTSE Shariah USA index which has been certified by Yasaar Ltd., a leading authority in Islamic law. The index’s purpose is to be the basis for Shariah-certified investment products which have been screened against the standards agreed upon by experts in Halal finance. The index focuses on US stocks which meet these criteria.
Our holdings are readily available to the public, and are screened not only by financial experts but also qualified Islamic jurists. For the investor looking for halal ETF options, Wahed offers a low cost and globally accessible financial product tracking a renowned market index. We are transparent about our fund’s operations, performance and risk, with annual and semi-annual reports published on our site.
At Wahed, our aim is to financially empower our customers whilst staying true to a values-based approach to investment. Our adherence to Halal finance does not make our product in any way exclusive to a particular demographic. It comes from our deep commitment to providing ethically sound options to the conscious investor. The purpose of our model is to encourage social responsibility by ensuring that our portfolios are encompassed by ethically sound assets, so you can rest assured that your money is going to a good place. Our philosophy is that in bridging the wealth gap we shouldn’t lose sight of our principles. To find out more about our ETF, head over to funds.wahedinvest.com .
As with any investment, a Wahed Invest Ltd investment puts your money at risk, as the value of your investment can go down as well as up. If you are unsure about whether investing is right for you, please seek expert financial advice.
Risk Disclaimer: https://bit.ly/3qjDtjG