How to Choose ETF
- 1). Decide on a sector. Choose whether you want your ETF to be invested solely in one segment of the market, or whether you want a general market ETF, such as the SPY. Generally speaking, if you are investing in only one ETF, you want to make it as broadly diversified as possible to reduce your risk. If you already have a portfolio that tracks the broad market, a specific industry ETF may be more appropriate.
- 2). Examine the options. The ETF market is a competitive one, with different firms creating ETFs that track similar market sectors. While these ETFs may have similar descriptions, investigate more closely and you will discover that they can be very different. For example, if you are looking for an ETF that focuses on the financial services industry, you can find some that focus on regional banks, some that focus on large international banks, and some that invest in as many financial stocks as possible. Even with different descriptions, a lot of these ETFs have overlapping portfolios, so it pays to take a close look at exactly what stocks each ETF holds and to make sure the holdings are appropriate for your overall investment plan.
- 3). Observe the ETF. Some ETFs sound great on paper and invest in exactly what you want to own, but, for a number of reasons, might not trade in a way that makes you comfortable. Some ETFs have higher expenses and thus trade lower than you might expect, because the market penalizes their inefficiencies. Other ETFs might be thinly traded, meaning that relatively few shares are bought and sold on any given day. As a matter of course, ETFs that have low trading volumes are often more volatile than other ETFs. If you cannot handle wild price swings in your ETF, you might want to find a more highly traded, or liquid, ETF. Track the trading in your ETF before you buy it so that you can get used to its trading pattern and volatility level.
- 4). Purchase your ETF. Once you have done all of your research, speak to your financial adviser or enter your own trade online. Remember that you do not have to stick with one ETF if it doesn't perform as you expect. One of the main advantages of ETFs is their ease of sale, and there are plenty of options available.
