Electronically Traded Funds(Exchange Traded Funds)

http://www.investopedia.com/terms/m/marketcapitalization.asp

First…what is an Index?

• A stock index is a compilation of stocks constructed in such a manor to track a particular market, sector, commodity, currency, bond, or other asset.* (Examples include tech, healthcare, & commodities)

• E.g., Gold and Precious Metals- XAU

Examples of Indexes

• S&P 500• Dow Jones Industrial Average• Nasdaq• An Index is just a list of stocks. Anyone can

create one.

http://www.investopedia.com/university/indexes/index1.asp

How is the Index valued?

• Ideally, a change in the price of an index represents an exactly proportional change in the stocks included in the index.

• Average of the overall portfolio….sort of.• Weighted average based on Market

Capitalization.

*http://www.investopedia.com/terms/m/marketcapitalization.asp

How is the Index valued?

• Each company in the index is weighted based on it’s value or “market capitalization.”

• If a company has 35 million shares outstanding, each with a market value of $100, the company's market capitalization is $3.5 billion (35,000,000 x $100 per share).*

What is an ETF?

Exchange Traded Fund(ETF)• Acts like an individual stock

(this stock value follows value of index its based on)

• Purchased directly on the market

• Price is managed by arbitrageur to match index price

• Traded any time of day

Mutual Fund• Multiple individuals as

owners of a “mutual” fund

• Purchased from a broker

• Usually actively managed; stocks might be moved in an out of the fund

• Traded at evening only

Benefits of ETFs

• Low fees– One purchase of an index based stock, not multiple purchases

• Tax treatment– Typically don’t pay out capital gains distributions– No need to constantly buy and sell multiple stocks

• Diversification– Can invest in any index (energy, commodity, S&P)

• You know exactly what’s in it• great for lump-sum investors, but you should use a

traditional index fund if you’re buying a little bit at a time.

http://guides.wsj.com/personal-finance/investing/how-to-choose-an-exchange-traded-fund-etf/

Review

• ETFs combine the range of a diversified portfolio with the simplicity of trading a single stock

• Price of the ETF is closely matched with Net Asset Value (NAV) of index by arbitrageur

• Cost-efficiency, tax-efficiency, flexibility

http://www.nasdaq.com/investing/etfs/what-are-etfs.aspx#.UXbTVGu_gYM