In addition to buying individual stocks and
bonds on a traditional or electronic market, you can buy and sell
shares in the collective performance of a number of stock portfolios
known as
exchange traded
funds (ETFs).
ETFs resemble mutual funds in the sense that
you invest in the fund rather than in the securities the fund
owns. And each ETF has a
net
asset value (NAV),
which is determined by the total market
capitalization — plus dividends and minus expenses —
of all the stocks in the portfolio divided by the number of existing
fund shares. A major difference is that an ETF’s price changes
throughout the trading day as investors buy and sell. A mutual
fund’s price is set once a day, at the end of trading.
The price you pay for an ETF depends on supply
and demand, though it never deviates much from the ETF’s
NAV. That’s because of an innovation introduced to keep the
two prices aligned. Institutional investors have the right to
buy or redeem blocks of shares at the NAV with a portfolio of
the fund’s stocks, so no momentum develops toward either
a higher or lower price.
You buy and sell ETFs through a brokerage
firm account, just as you do individual securities. And you can
use traditional stock-trading techniques that you can’t use
to buy mutual funds, including giving
stop or
limit orders,
buying
on margin,
or
selling short.
Getting a basketful
The portfolio of securities included in an exchange- traded fund is sometimes described as a basket of stocks. But you can’t pick the contents — these funds are a take-it-or-leave-it investment.
