ETFs are called exchange-traded funds. This type of investment holds a series of investments like bonds or stocks. The investment is held by several different investors and managed through a money manager. On the stock exchange, ETFs are margined, sold short, sold as options, or as futures.
Mutual funds and ETFs have similar options to reduce your risk by using diversification. They differ in the way they are sold, bought, and built.
ETF Key Points
- Risk – The risk and amount of return you’ll receive, depends on what the EFT is investing in. It’s possible to lose money when you invest in ETFs
- Past Performance – How the ETF has performed in the past lets you know how it’s going to perform later in the future. The past performance can be an indicator of the volatility of the ETF and the amount of risk your returns may be subjected to
- Buying and Selling ETFs – On the stock exchange, you buy and sell ETFs in a similar way to stocks and bonds
- Fees – You will usually pay a commission and some type of management fee when you invest in ETFs. To set up your investment account, you may be subject to costs
- Various Investments – An ETF holds various investments but trades like a regular stock
- An alternative to savings accounts – many people use ETFs as an alternative to a savings account. There are different cases and scenarios where the one is better than the other, and it all depends on you.
Making Money with ETFs
Some ETFs will pay money that is made by an ETF to the investors which are called distributions. Some examples include:
- If the ETF invests in bonds, you may get an interest distribution
- If the ETF invests in dividend stocks, you get dividend distributions
- If the ETF sells any investment for more than what was paid, you get capital gains distributions
How ETF Distributions Work
Mutual funds will reinvest cash distributions in more shares or units, but ETFs don’t do this.
- The cash you make will stay in your account. You need to tell the investment firm how you wish to use it. Sales commissions may need to be paid
- A program by the firm could offer to buy more shares or ETF units automatically using the distributions. There usually won’t be a fee on these automatic purchases
Taxing of ETFs
Tax for ETFs will be paid on the following:
- If you sell an ETF, capital gains tax is paid
- You receive distributions from your ETF
By holding your ETF in an RRIF or RRSP, then tax isn’t paid on investments as long as you don’t withdraw your money. With a TFSA there is no tax to be paid on money you make or when you take it out. You can read CompareMyRate’s page for TFSAs to get an idea of what they are, how they work, and compare the best savings accounts. A TFSA may be a much better option for you.
There’s a lot more to write about ETFs, but you should always do your own research before deciding to invest in anything.