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If you as an investor is looking to invest in an investment scheme that is passively managed and contains the properties of both mutual fund and stock you can consider investing in exchange traded funds. Also referred to as ETFs, exchange traded funds are listed at almost every stock exchange including the NSE (National Stock Exchange) and BSE (Bombay Stock Exchange). What sets them apart from other mutual funds is that investors can buy or sell their ETF units at their current market price during live trading hours.
ETFs: Why are they ideal for young investors?
These are some of the reasons why exchange traded funds are ideal for young investors:
They are cost efficient
Exchange traded funds are passively managed funds. These are different than actively managed mutual funds where the fund manager is actively involved in managing the scheme’s portfolio. With passive funds like ETFs, the fund manager only reshuffles the portfolio from time to time so that the scheme is able to track its underlying benchmark with minimum tracking error. Since there is no active involvement of the fund manager in managing the ETF portfolio, these funds are known to have a relatively low expense ratio as compared to active funds. A low expense ratio means that very few amounts from your overall capital gains will be deducted which will allow the investor to earn more returns in the long run.
ETFs are highly liquid
Although most mutual fund schemes offer liquidity some schemes like ELSS (Equity Linked Savings Scheme) and retirement mutual funds come with a predetermined lock-in period of three years and five years respectively. ETFs on the other hand do not have any lock in period. This allows investors to enter or exit ETFs at any given time. Also, to buy or sell mutual fund units investors place an order request to the AMC and one can either buy or sell their mutual fund units only once a day. The NAV which is determined at the end of the day is taken into consideration for the purchase/sale of units. In the case of exchange traded funds, one can buy or sell them at their market determined price. Also, investors need not sell their entire investment. They can choose to sell only a few units while the remaining of their money can continue to remain invested in the fund.
ETFs have passive fund management
A lot of investors do not wish to invest in mutual funds because there is scope for human error or emotional buying/selling on behalf of the fund manager. But since there is no active human involvement in managing the portfolio of an ETF scheme, there is no scope for human biases. The ETF scheme generates returns by tracking the performance of its underlying index with minimum tracking error. The fund manager only has the responsibility of ensuring the portfolio resembles securities in the same way they are in the underlying index.
Young investors who can take the risk with their finances can consider investing in ETFs. ETFs also make a great investment option for someone who wants to get a good understanding of how the stock market functions. These days it is also possible to invest in ETFs via SIP. Through SIP young investors can save small sums and create wealth in the long run. A Systematic Investment Plan is a simple and convenient way of investing small fixed sums regularly in ETFs. Investors can even use the SIP calculator which will calculate the approximate future returns which their ETF investments can earn.
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