An ETF, or Exchange-Traded Fund, is an investment fund holding a basket of stocks, bonds, or commodities. ETFs are similar to mutual funds in many ways, with two key differences:
- Trading: ETFs trade on secondary exchanges and their prices change throughout the day, just like individual stocks. Mutual funds are only bought and sold at the end of each trading day based on the closing net asset value (NAV) of the underlying holdings.
- Tax Efficiency: ETFs typically generate less tax liabilities than similarly structured mutual funds. This is largely because ETFs trade on secondary exchanges.
ETF investors typically sell their shares in the open market when they choose to exit the fund. Conversely, mutual fund managers must unload underlying positions each time investors want to redeem their money. The resulting tax consequences are distributed across all investors in the mutual fund.
ETFs can provide low-cost exposure to a diversified portfolio of assets. Their unique structure allows for easy buying and selling throughout the trading day. Many ETFs track a defined index, such as the S&P 500 or Dow Jones Industrial. However, there are also many ETFs that target certain sectors, industries, or themes.
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