Active Money Management with ETFs

Most ETFs are designed to track a particular market index, such as the S&P 500. Other ETFs follow market segments (small-, mid-, or large-cap stocks), individual countries, specific industry sectors, or commodities such as gold or oil. But keep in mind, you may need active money management from an RIA.

ETFs don’t deal directly with individual investors, and use an institutional investor that can then sell the ETF shares to individual investors on the open market. If an individual wishes to sell shares, he or she can do so by selling to other individual investors on the open market. To complete the redemption, the fund does not have to sell anything; it simply distributes the underlying securities to the institutional investor and then dismantles the creation unit.

Some of the advantages of an ETF fund:

Usually lower expense loads: Because they do not have operational costs, many ETFs have low annual expense ratios. (Don’t forget to review the prospectus)

Tax Favored: Low frequency trading may lead to some degree of tax efficiency.

Trading: ETF shares are bought and sold on the open market, an investor can use trading tools such as limit or stop-loss orders, “sell short” the ETF shares, or even trade the shares on margin, using borrowed money. Generally, no required minimum investment: No minimum purchase requirements are needed to buy shares in an ETF.

Some of the disadvantages of an ETF fund:

Commission charges: Some ETFs offer non-commission ETF product lines, but many are traded with commission transactional costs.

Client services: There may be limited services offered from the ETF manufacturer. Fee based RIAs may offer supplemental services for a fee.

ETFs are an option to consider when you’re seeking a financial product that generally has lower costs, some tax efficiencies and can be traded on the open market. Keep in mind that potential purchasers of ETFs need to perform a risk tolerance test and confirm their time horizons for suitability to achieve their mid to long term goals. You may need active money management oversight from an RIA.