What are ETFs and are they a good investment option?

When looking at which investments to choose, many DIY investors will usually opt for more familiar types of investments such as stocks or mutual funds, but for some investors, it may be worthwhile considering less familiar types of investments. One type of investment that investors may want to consider is exchange-traded funds (ETFs).

Here we take a look at what ETFs are and whether they are a good investment for DIY investors.

As with mutual funds, an ETF allows investors to buy and sell a basket of assets without having to buy all the components individually, but unlike a mutual fund, an ETF can be bought and sold throughout the trading day.

When explaining what an EFT is, Laith Khalaf, financial analyst at AJ Bell described it as very similar to a tracker fund. Khalaf explained: “Plain vanilla ETFs are very similar to tracker funds, in that they follow the performance of a broad market index, and do so at extremely low cost. They can also be held in ISAs and SIPPs just like traditional funds, and so have their gains and income sheltered from tax. Probably the most attractive edge that ETFs offer is they can be traded throughout the day, giving investors greater scope to buy on dips. By contrast, tracker funds work on a forward pricing basis, so you never know exactly what price you will pay. Over the long term, this isn’t likely to make a big difference, but some investors like to invest part of their portfolio more tactically, and some simply want to know they can buy and sell immediately, as they can with listed shares.

“ETFs can also be useful to give investors more specialised exposure to particular themes in the market, which active and index funds don’t tend to cover in such a focused way. For instance, the iShares Automation and Robotics ETF tracks an index of companies involved in the robotics and automation industry.”

The benefit of ETFs allowing investors to buy and sell throughout the trading day, combined with the benefits of a fund makes ETF potentially a good investment choice for some investors, but it is important to remember that all investments carry a risk.

Khalaf added: “While there are definitely some weird and wacky options in the ETF space, the most popular options with DIY investors show they are predominantly using ETFs to gain exposure to major markets, just as they would an index tracker fund. As ETFs rise in profile, more investors will likely join the growing throng of converts.”

Although investing in an ETF can be a good way for experienced DIY investors to benefit from investing in major markets, this type of investment is not for everyone. Possible risks include the costs involved, fluctuations in price and a potential lack of liquidity when an investor wants to sell. All of these could result in a loss of capital. As such, investors should carefully consider all options and, ideally, get advice from an independent financial adviser before making investments.

Many investment platforms, such as interactive investor, offer investors the option of investing in ETF, which is often the easiest way for DIY investors to invest. 

Our guide on investment platforms provides more information about investing this way, as well as how to get started.