5 Goals You Can Reach With ETF Trading: A Brief Insight

Oct 29, 2020 08:08 PM ET
5 Goals You Can Reach With ETF Trading: A Brief Insight

5 Markets You Can Reach With ETF Trading

The exchange-traded funds' growing popularity is a testament to the advantages they bestow on investors, especially their ability to provide exposure, diversification, hedging, and short selling.

Have you already included them in your portfolios? Even if not, you must be in constant search of the trading strategies such assets can offer. 

In this guide, we take a look at the beginner-friendly trading strategies that come with ETFs and that you can easily take advantage of. 

What is ETF Trading?

Think of an Exchange Traded Fund (aka ETF) as a type of security basket encompassing a whole range of different securities (such as stocks) in a virtual portfolio. 

Over the years, ETFs have served investors and traders as a passageway into a variety of markets that would otherwise be less approachable to them. These securities are marketable since they have a price associated with them, which allows you to buy and sell them accordingly. 

ETFs are tradeable on stock exchanges worldwide, and their value is estimated based on the average value of the total portfolio. 

Trading is performed within the operation hours of different stock exchanges, similar to how shares are traded. 

Each portfolio can be described by the term market index as it represents a market segment.

Market Index Definition

Market Index Definition

A market index is a tool to measure the value of holdings in your portfolio, where the evaluation is based on particular market characteristics. Therefore, each index has its calculation methodology and is influenced by price or market capitalization. 

The values used for index calculations drawn from the analysis of the average value of the total portfolio. Hence, indexes deriving from price will react to changes in the priciest holdings, while the capitalization-driven ones will respond to changes in the largest stocks, etc.

Indexes perform a variety of roles in the financial markets acting as a type of benchmark. So which ones are better to expose to?

The Most Popular Indexes

The most popular ones in the U.S. are the Dow Jones, S&P 500, and Nasdaq Composite. These draw performance metrics from over thirty significant stocks around the U.S. and are illustrative of the U.S. stock market as such.

Meanwhile, other less popular indexes, like the FTSE 100, can be used to narrow down your target market focus. Thus, if you build your portfolio exposing it to various indexes, you diversify it and ensure flexibility at the same time.

Best ETF Trading Strategies

Multiple strategies and methodologies have been utilized by traders and made widely-known. 

Below, we describe those that will enable you to trade according to your individual needs. Let us a look at them and try to understand them better. 

1. Invest in the Stock Market With ETFs

Investing in stocks is perhaps the best-known application of ETF trading strategies. 

Since it allows for the tracking of the underlying securities, buying shares in the Vanguard S&P 500 UCITS, for instance, will allow you to measure the performance of the underlying S&P market index. 

Invest in the Stock Market With ETFs

But, traders can also be more particular in deciding exactly which area of the stock market they want to invest in. 

Since the companies in the stock market are categorized by their operative sector, you can look to invest using sector-specific ETFs, such as health care, energy, technology, retail, etc. 

For instance, if you were to get some exposure in energy, instead of choosing a single company you could opt for this ETF, which invests in many large energy companies.  

2. Invest in Commodity ETFs

Investors looking to gain exposure in the commodity sector should invest in commodity ETFs. These would cover agriculture, energy, metals, and more. 

So, if you were looking to buy gold long-term, you could look to buy a gold ETF instead of gold bars. There are various gold ETFs available, including those of many other precious metals. 

3. Invest in Foreign ETFS to Access International Markets

ETFs also allow investors and traders to gain access to international markets that are otherwise out of bounds for them. And how does it work in practice? For instance, the growth of emerging economies has popularized the emerging market ETFs and given investors and traders a chance to gain some exposure to them. 

Other multiple sectors and industries can also be gained access to through ETFs, which allows for the creation of an exceptionally diversified portfolio. 

4. Invest in Bond ETFs

Investing in Bond ETFs is one of the most enticing and alluring options for investors. Why so? They trade on secondary markets and, more importantly, allow for the creation of a revenue stream. 

It is well known that investing in bonds, in general, can be quite difficult since there’s always the risk of default and other complexities, such as coupon rates or duration. 

Invest in Bond ETFs

Investment in bonds this year might not be the best idea altogether. But a bond ETF can solve much of those issues as it provides investors with a bundled asset that provides instant access to the bond market. 

5. Short Selling

Short selling is considered to be quite a risky endeavor for investors in general, something beginners should not try. But, through the ETF, it becomes manageable due to its lowered risk and lowered cost of borrowing (which is in stark contrast to the cost incurred in trying to short a high-interest stock). 

For a beginner, these risk mitigations are very important. Using inverse ETFs a trader can easily take a bearish position without borrowing a stock and paying overnight fees.

So is it worth attempting after all? Through ETFs, short selling allows traders to benefit from a broad investment theme. 

Nevertheless, only advanced beginners who are aware of the shorting risks should initiate a short position. While those who are just starting should stay clear of some ETFs that come with high risks, such as Emerging Markets ETF. 

Investing involves a lot of protection against risk as well, which is where ETFs come to traders’ aid. 

If you have a large well-diversified portfolio, you can safeguard yourself against the downside risk by selling a market ETF. On the off-chance that the market declines, your portfolio will be properly hedged and the gains of the shorted ETF will offset the declines. 

What to be aware of? Do take note of the fact that your profits will be limited as the market advances since the losses of the short ETF position will offset the gains to some extent. 

However, even then, beginners would find ETFs to be an efficient and relatively easy way of hedging.  

Final Thoughts

The numerous features of ETFs, such as low investment requirements, a multitude of investment options, diversification, and many others make them the perfect tools for traders and investors who are just starting. 

All of the strategies mentioned above are particularly suitable for beginners that allow them to gain access to a wide range of markets while minimizing the risks that are inherent in them. 

There is no denying that they have indeed become the subject of interest for beginners and professionals alike. They not only enable a trader and investor to diversify their portfolio and penetrate markets that otherwise remain off-limits but they also allow for the cushioning of the blow when markets turn on them. 

 

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