Including ETFs as Part of Your Stock Portfolio

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An investment portfolio can take on many different forms. It might include stocks, bonds, currencies, precious metals, commodities, futures, mutual funds, ETFs and more. It might have just some of these asset types or it might include a little of everything.

Diversification is a term that gets passed around on Wall Street often, but seems to be misunderstood more often than not. The basic idea is to diversify assets so an investor isn’t overly exposed to one kind of risk over another. Some investors seem to think that means buying a lot of different things is the best way to accomplish diversification, but in reality, this strategy will dilute your portfolio’s total return potential.

One way to avoid diluting returns without giving up on diversification is by using investment vehicles that contain a portfolio of holdings like a mutual fund or ETF. And investors have already begun picking up on this idea with ETFs becoming more popular and more prolific each year.

Successfully incorporating ETF’s into a portfolio

There’s a trend in the last few years: investors leaving mutual funds and choosing ETFs as an alternative. Mutual fund outflows in 2016 hit $264.5 billion, while inflows to ETFs numbered $236.1 billion. It represents a shift in investor behavior. More people are choosing passively managed investments with lower fees than actively manged funds with higher fees. Higher fees that many believe aren’t warranted given the lack of performance from the industry.

Actively managed funds like mutual funds have under-performed broader indexes like the S&P 500 for years now – and with expense ratios near 1%, many feel like these types of managed accounts aren’t performing as advertised. ETFs generally have lower expense ratios than mutual funds and, despite passive management, have performed well against market averages. Meanwhile, 76% of mutual funds have lagged relative to their intended benchmark indexes.

The greatest appeal ETFs have to investors is the fact that they trade like stocks. Investors can buy and sell them with ease, unlike mutual funds, which trade just once per day. Thanks to the popularity of the industry, there are numerous options available, as well, from standard index-based ETFs to commodity-based ETFs and even leveraged ones.

While holding a portfolio made up entirely of ETFs is possible, the best allocation would be to hold just one or two in the mix to help shore up any portfolio weaknesses. If technology stocks seem too complicated as an investment, a tech-based ETF might be exactly what your portfolio needs to gain exposure to the sector without taking on too much risk.

Investors should note the difference between ETFs and ETNs (exchange-traded notes). While ETFs hold stock securities, ETNs are comprised of debt securities, albeit without the periodic payments. Investors who aren’t aware of the differences might see ETNs and ETFs as the same thing, but the risk and reward of debt securities are much different than that of stock securities. Investors will need to make sure what type of product they are interested in before committing.