What's so great about ETFs?

Exchange-Traded Funds, or ETFs, have become one of the defining investment vehicles of the modern era. Over the past two decades, they’ve grown from niche financial products into mainstream tools used by both retail investors and professional fund managers across the globe.

An ETF is essentially a basket of investments usually stocks, bonds or commodities that you can buy and sell on a stock exchange, just like an individual stock.

• Mutual funds vs. ETFs: Unlike mutual funds which are priced once per day after markets close, ETFs trade continuously during market hours. This gives them high liquidity and flexibility.
• Transparency: Most ETFs clearly disclose their holdings, allowing investors to know exactly what they own.
• Diversity of choice: Whether you want broad market exposure or a highly targeted bet on a specific sector, there’s likely an ETF to match your need.

One of the fundamental principles of investing is diversification — spreading risk across multiple assets. Investing in a single stock exposes an investor to company-specific risks. By contrast, holding a portfolio of stocks helps reduce those risks.

ETFs make this process straightforward. By purchasing just one ETF, an investor gains exposure to dozens — or sometimes hundreds — of individual securities. In practice, research suggests that owning 20 to 30 different stocks provides sufficient diversification to reduce company-specific risks.

This balance explains much of their popularity.

ETFs have many advantages: cost effectiveness, transparency, diversification, liquidity and flexibility.

Cost-effectiveness

Many ETFs are passively managed, meaning they aim to track the performance of a specific index such as the S&P 500 rather than trying to outperform it. Because they do not rely on expensive teams of analysts to pick stocks, management fees are generally much lower than those of actively managed funds. Over time, these lower fees can have a significant impact on overall investment returns, making ETFs an attractive option for cost-conscious investors.

Transparency

Investors can usually see exactly what the fund holds on a daily basis, allowing them to monitor exposure to different securities and sectors. This contrasts with many mutual funds which typically disclose their holdings only quarterly. For investors who value clarity and oversight, ETFs provide a straightforward and reliable solution.

Liquidity and flexibility

Unlike mutual funds which are priced only once a day, ETFs can be bought and sold throughout trading hours — just like individual shares. Investors can use market orders, limit orders, stop-loss orders or even implement options strategies with ETFs. This ease of trading makes them a practical tool for both long-term investors and more active traders.

Diversification

A single purchase can provide exposure to hundreds of securities, reducing the risk associated with holding only a few individual stocks. Moreover, ETFs are available across a wide range of asset classes including equities, fixed income, commodities, currencies and alternative investments. This broad selection allows investors to build a well-rounded portfolio and gain exposure to multiple markets and themes without having to buy each security separately.

In 2003, there were just 291 ETFs worldwide.

By December 2024, that number flirted with 10'000, with nearly $ 11 trillion in assets under management. PwC predicts that the market will reach $ 30 trillion in AUM by 2029.

This explosive growth reflects strong investor demand for accessible, low-cost and diversified investment products.

Broad Market ETFs track large indices, such as the S&P 500 or the MSCI World, offering investors a simple way to gain exposure to a wide range of companies. One of the world’s largest and most traded ETFs is the SPDR S&P 500 ETF (SPY), which allows investors to effectively buy a slice of the US stock market in a single trade.

Sector ETFs focus on specific industries such as technology, energy or financials. These funds enable investors to concentrate on sectors they believe will outperform. Examples include the Energy Select Sector SPDR Fund (XLE), which targets the energy industry and the Technology Select Sector SPDR Fund (XLK), which covers major tech companies.

Thematic or “Trend” ETFs are designed to capture long-term structural trends and emerging themes. Popular options include the iShares Global Clean Energy ETF (ICLN) for renewable energy, the Global X Robotics & Artificial Intelligence ETF (BOTZ) for robotics and AI and the ARK Innovation ETF (ARKK) for disruptive innovation.

Commodity ETFs offer a practical solution for investing in physical commodities which often lack a centralized marketplace. Unlike stocks, which trade on exchanges, or bonds which have well-defined markets, commodities like gold, oil or wheat are traded globally through fragmented exchanges and over-the-counter contracts making direct investment complex, costly and logistically challenging. Commodity ETFs, such as the SPDR Gold Shares ETF (GLD), allow investors to track the price of gold or other raw materials through the stock market, bypassing the decentralized market structure. This structure provides accessibility, transparency and liquidity, making ETFs arguably the most efficient way for individual and institutional investors to gain exposure to commodities.

Inverse and Leveraged ETFs offer magnified or opposite exposure to market movements. “2x” or “3x” leveraged ETFs amplify the daily returns of an index, while inverse ETFs are designed to profit when markets decline. These instruments are complex and can be highly risky particularly for long-term investors, so careful consideration is essential.

Regional and Country-Specific ETFs allow investors to target specific markets or regions. The Xtrackers MSCI World ex USA ETF for instance excludes US companies and provides exposure to 22 developed markets, while the iShares MSCI India ETF offers direct access to India’s rapidly growing economy.

Finally, Bond ETFs diversify across fixed-income securities including US Treasuries, corporate bonds and municipal bonds. These funds allow investors to gain broad fixed-income exposure in a convenient and tradable format making them a core component of many portfolios.

The clean energy transition has emerged as a powerful investment theme, reflecting both global efforts to reduce carbon emissions and the rapid growth of renewable technologies.

For example, the iShares Global Clean Energy ETF (ICLN) provides broad access to companies involved in wind, solar and other renewable energy projects around the world, capturing the global shift toward sustainable power. Meanwhile, the First Trust NASDAQ Clean Edge Green Energy Index Fund (QCLN) focuses more narrowly on US-based clean energy companies, allowing investors to target innovations and growth in the American market.

By investing in these ETFs, individuals can participate in the broader transition to renewable energy and benefit from the sector’s expansion without having to place all their bets on one or two companies.

One key concern is concentration risk: many thematic ETFs hold a relatively small number of companies often within highly correlated industries, which can magnify losses if the sector underperforms.

Volatility is another important factor as prices can rise or fall dramatically in response to shifts in market sentiment or investor enthusiasm rather than fundamental performance.

In addition, thematic trends may have a short shelf life; what appears to be a long-term structural opportunity could prove temporary if technological, regulatory or consumer preferences change unexpectedly.

This approach allows investors to participate in promising sectors while mitigating the heightened risks associated with concentrated, trend-driven strategies.

One common challenge with global indices such as the MSCI World Index, is their heavy concentration in US stocks often exceeding 60%, which can leave portfolios vulnerable to shifts in the US market. For those looking to broaden exposure, a range of ETFs offers access to other developed and emerging markets. The Xtrackers MSCI World ex USA ETF, for example, provides exposure to nearly 800 companies across Europe, Japan and other developed economies while deliberately excluding US firms with holdings that include Nestlé in Switzerland, ASML in the Netherlands and Novo Nordisk in Denmark.

Investors can also explore emerging market ETFs such as the Vanguard FTSE Emerging Markets ETF (VWO), which opens the door to rapidly growing economies like China, India and Brazil. For those seeking more targeted strategies, country-specific ETFs such as the iShares MSCI India ETF (INDA), allow direct access to individual markets.

The future of ETFs looks set to be defined by ongoing innovation and expanding opportunities for investors, reflecting both technological advancements and evolving market demands.

Unlike traditional ETFs that track broad indices or fixed themes, these personalized products could enable investors to weight sectors, companies or even specific investment factors according to their personal convictions, effectively creating a portfolio that reflects their individual financial philosophy.

Alongside this trend, artificial intelligence is poised to play an increasingly prominent role in ETF management. AI-driven ETFs which leverage sophisticated algorithms to identify market trends, optimize holdings and rebalance portfolios automatically, promise to bring a level of speed, precision and data-driven decision-making that human managers may struggle to match. These AI-enabled products could adapt in real time to market fluctuations, macroeconomic indicators and even alternative datasets offering investors the potential for more dynamic and responsive exposure to financial markets.

Despite the vast range of options already available — more than 10,000 ETFs globally, covering virtually every asset class, sector and region — the challenge for investors is shifting.

With innovation accelerating in areas such as personalization, AI integration and sustainability, the next generation of ETFs promises to be more tailored, intelligent and value-driven than ever before.

Investors who stay informed about these trends and understand how to harness them could find opportunities to construct portfolios that are not only diversified and cost-effective but also closely aligned with both their financial goals and their broader worldview.

In short, the ETF landscape is evolving from a tool for passive exposure into a platform for active, values-based and highly customized investing, signaling a future in which ETFs play a central role in shaping how individuals participate in global financial markets.

1. Consider Costs and Fees

One of the first considerations is cost, specifically the ETF’s expense ratio, which represents the annual fee charged by the fund as a percentage of assets under management. While lower fees are generally more attractive, investors should make sure that the costs are justified by the fund’s strategy and performance potential as some specialised or actively managed ETFs may charge higher fees for unique exposures.

2. Beware of Liquidity

Liquidity is another crucial factor: ETFs with higher trading volumes tend to have narrower bid-ask spreads which reduces transaction costs and makes it easier to enter or exit positions efficiently particularly during periods of market volatility. Put simply: the more liquid an ETF is, the better.

3. Mind the Gap

Tracking error is also important as it measures how closely the ETF replicates the performance of its benchmark index: a large tracking error may indicate that the fund is not effectively achieving its intended market exposure potentially affecting long-term returns.

4. Walk the Talk

Equally significant is the composition of the underlying holdings. Investors should not assume that the label of an ETF fully reflects its exposure — for instance, a fund marketed as “global” might be heavily weighted toward US stocks, while a sector ETF could be concentrated in only a few large companies increasing both risk and volatility.

5. Don’t forget Taxes

Finally, tax considerations can play a major role in overall investment outcomes. Depending on the investor’s country of residence, ETFs may be subject to different tax treatments than mutual funds affecting capital gains, dividends and distributions.

Understanding these implications including potential cross-border tax issues for international ETFs, is critical for effective portfolio planning. By carefully evaluating these elements — costs, liquidity, tracking accuracy, holdings and tax implications — investors can make more informed decisions and select ETFs that truly complement their broader investment strategy rather than simply choosing based on brand name or popularity.

6. Watch the Currency Exposure

Many ETFs are denominated in a specific currency, which can create an additional layer of risk. For example, a Swiss investor buying a US-listed ETF in USD is not only exposed to the performance of the underlying assets but also to fluctuations between the US dollar and the Swiss Franc. Even if the underlying securities rise in value, unfavourable currency moves could erode returns. Some ETFs offer currency-hedged versions to mitigate this risk, but these often come with slightly higher fees. Investors should therefore weigh carefully whether currency exposure is part of their strategy or an unintended source of volatility.

The content in this article is provided for educational purposes only. It does not constitute investment advice, financial recommendations, or promotional material.