A:

An exchange-traded fund (ETF) is a security that tracks an index but has the flexibility of trading like a stock. Just like an index fund, an ETF represents a basket of stocks that reflects an index. The difference is that an ETF isn't a mutual fund - it trades just like any other company on a stock exchange. The high management fees and the lack of liquidity of index mutual funds have made ETFs increasingly popular investment vehicles. Almost every one of today's major indexes has an ETF tracking its performance, and most ETFs are passively managed by some form of trust company. These trust companies take on the responsibility of maintaining the portfolio of stocks within the index to which they are linked. The trust company transforms the portfolio into individual shares of ETFs, which are then sold and purchased on the AMEX like regular stocks, such as the Spiders and Diamonds ETFs.

Even though ETFs are passively managed and mimic a specific index, charges are incurred for these services. These charges are typically lower than those of index funds and are used for day-to-day operations, maintenance of the index portfolio, and payment of employee salaries. Part of the maintenance of the portfolio entails the collection and safekeeping of dividends paid by companies within the index portfolio. It is the duty of the trust companies to distribute these payments to the ETF stockholders; the distributions are normally made on a periodic basis.

RELATED FAQS
  1. What is the difference between exchange traded funds (ETFs) and closed end funds?

    Investors have a number of options available to them when it comes to investing in pooled funds. While mutual funds offer ... Read Full Answer >>
  2. What does a high turnover ratio signify for an investment fund?

    If an investment fund has a high turnover ratio, it indicates it replaces most or all of its holdings over a one-year period. ... Read Full Answer >>
  3. Does index trading increase market vulnerability?

    The rise of index trading may increase the overall vulnerability of the stock market due to increased correlations between ... Read Full Answer >>
  4. What is the difference between passive and active asset management?

    Asset management utilizes two main investment strategies that can be used to generate returns: active asset management and ... Read Full Answer >>
  5. Is there a situation in which wash trading is legal?

    Wash trading, the intentional practice of manipulating a stock's activity level to deceive other investors, is not a legal ... Read Full Answer >>
  6. Are there leveraged ETFs that follow the retail sector?

    There are many exchange-traded funds (ETFs) that track the retail sector or elements of the retail sector, and some of those ... Read Full Answer >>
Related Articles
  1. Mutual Funds & ETFs

    ETF Analysis: PowerShares S&P 500 Downside Hedged

    Find out about the PowerShares S&P 500 Downside Hedged ETF, and learn detailed information about characteristics, suitability and recommendations of it.
  2. Mutual Funds & ETFs

    ETF Analysis: Guggenheim Enhanced Short Dur

    Find out about the Guggenheim Enhanced Short Duration ETF, and learn detailed information about this fund that focuses on fixed-income securities.
  3. Mutual Funds & ETFs

    ETF Analysis: iShares US Oil&Gas Explor&Prodtn

    Learn about the iShares U.S. Oil & Gas Exploration & Production ETF, which provides an efficient way to invest in the exploration and production sector.
  4. Mutual Funds & ETFs

    ETF Analysis: iShares Morningstar Small-Cap Value

    Find out about the Shares Morningstar Small-Cap Value ETF, and learn detailed information about this exchange-traded fund that focuses on small-cap equities.
  5. Mutual Funds & ETFs

    ETF Analysis: iShares MSCI KLD 400 Social

    Find out about the iShares MSCI KLD 400 Social exchange-traded fund, and learn detailed information about its characteristics, suitability and recommendations.
  6. Mutual Funds & ETFs

    ETF Analysis: iShares Agency Bond

    Find out about the iShares Agency Bond exchange-traded fund, and explore detailed analysis of the ETF that tracks U.S. government agency securities.
  7. Mutual Funds & ETFs

    ETF Analysis: Guggenheim BulletShrs 2018 HY CorpBd

    Find out about the Guggenheim BulletShares 2018 High Yield Corporate Bond ETF, and get information about this ETF that focuses on high-yield corporate bonds.
  8. Mutual Funds & ETFs

    ETF Analysis: PowerShares DWA SmallCap Momentum

    Find out about the PowerShares DWA SmallCap Momentum Portfolio ETF, and explore detailed analysis the fund's characteristics, suitability and recommendations.
  9. Mutual Funds & ETFs

    ETF Analysis: WisdomTree Bloomberg US Dllr Bullish

    Explore an analysis of information on the WisdomTree Bloomberg U.S. Dollar Bullish Fund, a currency ETF that tracks the overall performance of the U.S. dollar.
  10. Mutual Funds & ETFs

    ETF Analysis: ProShares Large Cap Core Plus

    Learn information about the ProShares Large Cap Core Plus ETF, and explore detailed analysis of its characteristics, suitability and recommendations.
RELATED TERMS
  1. Exchange-Traded Fund (ETF)

    A security that tracks an index, a commodity or a basket of assets ...
  2. Exchange-Traded Mutual Funds (ETMF)

    Investopedia explains the definition of exchange-traded mutual ...
  3. Next Generation Fixed Income (NGFI) Manager

    A Next Generation Fixed Income (NGFI) manager is a fixed income ...
  4. Next Generation Fixed Income (NGFI)

    Next generation fixed income is an innovative approach to investing ...
  5. Annual Crediting Cap

    The maximum rate of index growth that an annuity will be credited ...
  6. Lion economies

    A nickname given to Africa's growing economies.

You May Also Like

Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!