ETF funds are investment funds that are traded on the stock exchange. The abbreviation ETF stands for “exchange traded fund”. The ETF funds are so-called index funds.
What is an index fund?
An index fund is an investment fund that tries to replicate a certain stock exchange index as accurately as possible. Important indices are for example the DAX, the Dow Jones Industrial, but also certain industry-specific indices, commodity indices or others.
Replication is done by investing in the securities that are used to calculate the index in the same proportion as the index itself uses them for calculation. For example, for the calculation of the DAX, the 30 DAX companies are weighed in different ways to determine the DAX value. An index fund that orients itself on the DAX will therefore balance the number of shares in its portfolio in a way that it includes the shares of the DAX companies in the same proportion as the DAX weighs them. However, the performance of the fund can still deviate more or less significantly from the index, upwards or downwards.
Actively and passively managed funds
Index funds are usually passively managed. This means that there is no active purchase or sale of securities from the portfolio, but the composition of the fund only changes when the respective index changes its weighting, individual companies are newly included in the index or no longer taken into account. However, this is rarely the case.
An actively managed fund, on the other hand, purchases and sells units in order to keep the performance of the fund as high as possible. The fund manager will also try to place as many individual securities as possible in the fund as prices fall in order to keep average costs low. This is called the average cost effect on the stock market, and its positive impact for investors in actively managed funds should not be underestimated.
An additional profit opportunity for actively managed ETF’s is that individual units of the fund can be lent to other market participants for a limited period of time – this allows the fund manager to generate additional profits for the index fund.
However, ETFs today are usually passively managed index funds. Actively managed ETFs are rather exceptional.
ETF as savings plan
As with the rare equity saving, ETF funds allow you to purchase additional shares at regular intervals, allowing you to increase your assets. In this case, the same costs and risks have to be considered as in equity saving, even if they are less present due to the diversification offered by the fund and the selection of mostly solid securities (only really important companies are used for indices).
However, what must also be taken into account with an ETF are the so-called systemic risks: sales panic in individual areas can possibly spread to other market segments. Such effects are not always foreseeable or predictable, but they do exist on the stock market. Those can trigger a massive loss, especially in the case of sector-specific indices.
You can buy ETFs via the stock exchange using the ISIN or WKN. We recommend using discount brokers such as OnVista. OnVsita, for example, offers many ETF savings plans completely free of charge, i.e. without order or custody fees. You can find further broker offers with the help of our broker comparison calculator or with the help of our Top 3 at the end of this article.