Investing in ETFs

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Investing in ETFs: The Real Reason They’re Hot And Three ETFs Worth Buying Today

by Mark Skousen, Chairman, Investment U
Monday, March 6, 2006: Issue #516

In my 40 years’ experience on Wall Street, I’ve witnessed a series of financial revolutions: stock discounters, money market funds, gold bullion coins, nothing-down real estate, tax shelters, the explosion in no-load (no sales charge) mutual funds, telephone-switching, and lately, the Internet, which has forced commissions down to practically nothing.

The most recent revolution is taking place in the world of Exchange-Traded Funds (ETFs). So, why is investing in ETFs such a good investment vehicle these days?

5 Reasons Why Investing in ETFs Is So Popular:

1. Flexibility. ETFs are open-end mutual funds that you can trade instantly like ordinary stocks throughout the day on the New York Stock Exchange (NYSE) or the American (AMEX). The fact that they can be bought or sold at any time is an advantage over traditional open-end mutual funds, which only allow purchases and sales at the end of the day. Now you know what price you are paying.

2. Liquidity. When ETFs were first introduced in 1993, there was only one – the S&P Depositary Receipt (AMEX: SPY), or “Spider,” as traders call it today. Volume was under 100,000 shares a day. Now, Spiders, Diamonds, Vipers, and iShares trade tens of millions of shares a day.

3. Low cost and dependability. ETFs are index funds, and as such, they usually cost less to run than standard mutual funds. In fact, investing in ETFs allows you to create your own well-diversified portfolio without sales loads, redemption fees and other restrictions common to mutual funds.

Moreover, as index funds, you know what you are getting. No need to worry about an uncertain money manager. You can become your own money manager by choosing which sector you want to invest in. And that brings us to # 4

4. Choice. The ETF investment universe is accelerating. Today, there are more than 200 ETFs covering almost every sector imaginable, both here and abroad. Here are some major categories:

Banking
Bonds (U.S.)
Broad Index (U.S.)
Value
Growth
Small Cap
Mid Cap
Large Cap
Consumer
Dividend
Financial
Foreign Individual Markets (24 countries and five regions)
Biotech and Health Care
Energy and Gold
Real Estate
Technology
Semiconductors
Telecom
Transport
Utilities

5. Selling short. Not too many investors know this, but you can sell ETFs short if you think they are overvalued. To sell an individual stock short, you have to wait for an uptick in the share price before the exchange can execute your order. That’s not the case when you invest with ETFs. You can short them at any time at the prevailing price.

The Unknown Advantage with ETFs

But probably the biggest advantage to trading ETFs is tax efficiency. One of the most annoying aspects of investing in no-load mutual funds is the dastardly distributions a fund is required to make, usually in December. You suddenly get a taxable distribution without buying or selling. It can be very annoying, and costly. Sometimes a fund can be hit with a taxable “gain” exceeding 20% of your investment.

With ETFs, however, distributions are rare. ETFs are currently all index funds, which usually have lower turnover than actively managed funds. Consequently, capital gains are limited unless you sell. In addition, since ETF investors trade shares on an exchange and not with the fund, ETF managers don’t have to sell securities to pay off redeeming shareholders.

With so many to choose from, here are three ETFs to consider investing in right now:

iShares MSCI Emerging Markets (AMEX: EEM)
iShares FTSE/Xinhua China 25 Index Fund (NYSE: FXI)
streetTRACKS Dow Jones STOXX 50 (NYSE: FEU)

Good trading,

Mark

Today’s Investment U Crib Sheet

For a complete list of ETFs, the Yahoo! ETF Center is a great place to start.
And speaking of America’s first financial guru, The Compleated Autobiography by Benjamin Franklin is now available at Amazon. And The Hill newspaper recently called it “A riveting first-person account of the Founding of our nation.” As a descendant of Franklin, and in honor of his 300th birthday, I took on this project to “complete” his original classic. Now, the last 33 – and most eventful – years of Franklin’s life are included. And it’s all in his own words!